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The cost of capital (part 2) – ACCA (AFM) lectures

VIVA

Reader Interactions

Comments

  1. hamzanaeem123 says

    August 27, 2024 at 8:42 am

    Is the nominal value always assumed to be $100 in exam, regardless it’s redeemable or irredeemable debt
    Because it wasn’t mentioned in the example and not sure if it’s explained or not in the video or I might have missed it out

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    • John Moffat says

      August 27, 2024 at 8:55 am

      Yes, unless obviously the questions says differently.

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  2. Akhil004 says

    September 29, 2023 at 1:08 pm

    Sir, what if the loan notes are convertible into equity ? Is that portion important for AFM exam ? It was asked in the last FM exam.

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    • John Moffat says

      September 29, 2023 at 5:03 pm

      Convertible loan notes are examinable (just as they are for Paper FM also).

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      • Akhil004 says

        September 29, 2023 at 9:35 pm

        Thanks for the reply. Is it covered in the AFM section or should I go to FM lectures to revise it ?

  3. boiledalien says

    February 24, 2023 at 11:56 am

    Hey John,
    In example 8 why can’t we directly use the formula for redeemable debt; {Interest+ [(Redeemable Value- Net Proceeds)/no. of years]} / [(Redeemable Value+Net Proceeds)/2?

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    • John Moffat says

      February 24, 2023 at 4:39 pm

      Because that is not the way we calculate the cost of debt. Given that the market value the debt is the present value of the future receipts, the only correct way of arriving at the cost of debt is to calculate the IRR as shown in the lecture.

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  4. thulasikaur says

    August 18, 2022 at 6:01 am

    Hi Sir,
    through using ACCA spreadsheet platform IRR function, I got 10.67% for part (a) and 9.03% for part (b). Is my answer acceptable?

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    • John Moffat says

      August 18, 2022 at 7:17 am

      Yes, of course 🙂

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  5. nkengdieudonne says

    July 26, 2022 at 12:36 pm

    Hello sir Moffat

    Can I depend on these well explained notes and video for the December 2022 session??
    ??

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    • John Moffat says

      July 26, 2022 at 3:50 pm

      Yes you can 🙂

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      • nkengdieudonne says

        August 1, 2022 at 2:10 am

        Thanks sir

      • John Moffat says

        August 1, 2022 at 7:49 am

        You are welcome.

  6. parvathinair195 says

    July 20, 2022 at 6:27 pm

    Hi,

    I had a quick question regarding the calculation of annuity factor in Example 8 (Redeemable Debt). I know this can be obtained from the Annuity Table provided during the exam, but is there any way to calculate this on the Scientific Calculator to save some time? Any tips would be appreciated! Thanks in advance.

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  7. gulabsagar says

    March 12, 2021 at 9:47 am

    how will i value a company share where 100% earnings is retained ?

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    • John Moffat says

      March 12, 2021 at 2:34 pm

      No company will retain 100% of its earnings for ever. At some stage they will pay a dividend.
      Certainly they may retain 100% for a few years and therefore only pay dividends at some time in the future, in which case the MV will be the PV of rite future dividend as always.

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      • gulabsagar says

        March 12, 2021 at 3:47 pm

        why we discount only dividends to arrive at MV of share and not retained earnings , as retained earnings brings growth in MV of share too ?

      • John Moffat says

        March 13, 2021 at 7:45 am

        Retained earnings are used to expand the company which leads to increases in profits which in turn leads to increases in dividends.
        I do suggest that you watch the relevant Paper FM (was F9) lectures, because this is all revision from Paper FM.

  8. mbopentuition says

    October 26, 2020 at 2:56 pm

    is 16.86 not 18.86

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    • John Moffat says

      October 26, 2020 at 5:22 pm

      What is ???

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      • ATHAR97 says

        January 12, 2021 at 9:51 am

        The fall of NPV from 6.06 to negative 10.22. Video reference @ 20:07

      • John Moffat says

        January 12, 2021 at 1:44 pm

        You are quite correct and I have made a silly mistake in the lecture – I must re-record it. I should have used 16.28 instead of 18.28 and so the answer is slightly different (but the printed answer in the lecture notes does have the correct answer). Sorry about that.

        (Although (and I am not using this as an excuse) I would still have almost certainly got full marks in the exam despite the mistake because the approach was correct and the difference it makes is minimal (and the answer is of course only ever an approximation anyway ? ))

      • Mishern says

        February 7, 2021 at 5:08 pm

        Hi John,

        I couldn’t reply to your post on 12 Jan 2021 at 13h44 below, so am doing so here.

        I believe there to be a tiny error in the answer to Example 8 (b) on page 125 of the lecture notes – the math operator in the denominator of the term in brackets ought to be “+” not “x” –> “6.06 + 10.22” not “6.06 x 10.22”.

        A quick question regarding how we might calculate the IRR in the CBE: Microsoft Excel has NPV and IRR formulae that enable one, in my opinion, to use the power of Excel and set out the answer in an easy-to-follow way. Are either of these formulae available in the CBE spreadsheet functionality?

  9. mehrfatima says

    October 6, 2020 at 10:38 pm

    Hi,

    So since we’re considering both the rate and the premium with IRR in redeemable, am I correct to assume that the Cost of Irredeemable debts is in fact effective rate of interest?

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    • mehrfatima says

      October 6, 2020 at 10:40 pm

      Sorry, cost of redeemable debts.

      Great lecture. Very clear!

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      • John Moffat says

        October 7, 2020 at 8:20 am

        Yes – it is the effective rate of interest the company is paying. (The effective interest being received by the investor is the IRR of the pre-tax flows)

    • mehrfatima says

      October 8, 2020 at 10:52 pm

      Okay. Thank you. ^^

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      • John Moffat says

        October 9, 2020 at 8:39 am

        You are welcome 🙂

  10. jocelynjm says

    February 4, 2020 at 7:33 am

    Hi John,

    Thanks for the excellent lecture.

    Just wondering are we allowed to take a financial calculator into the exam? Thanks heaps!

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    • John Moffat says

      February 4, 2020 at 7:36 am

      It is a scientific calculator that you need for the exam, not a financial calculator.

      Two things – one is that whatever calculator you use it must display only numbers and not letters. The other is that you still need to show workings because it is the workings that get the marks and not the final answer.

      Thanks for the comment 🙂

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      • jocelynjm says

        February 9, 2020 at 8:54 am

        Thank you 🙂

      • John Moffat says

        February 9, 2020 at 9:46 am

        You are welcome 🙂

  11. gnoii says

    October 3, 2019 at 4:24 pm

    Dear sir,
    In case of making loss in fiscal year, is there still tax relief for the interest paid or a recalculation of interest rate for business review?
    Please kindly enlighten me this.
    Thank you very much.

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    • John Moffat says

      October 4, 2019 at 8:26 am

      It would only be relevant if the business as a whole made a loss (not just the project in question). However for the exam we assume that we always get the tax relief on the interest.

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  12. ashrf16 says

    September 24, 2019 at 2:59 pm

    since the premium of 10% can be accounted as an interest, wouldn’t the premium be tax allowable too?

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    • ashrf16 says

      September 24, 2019 at 3:02 pm

      sorry, the answer was already in the comments.

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      • John Moffat says

        September 24, 2019 at 3:48 pm

        No problem – I am pleased that you found the answer 🙂

  13. rohanmehta says

    September 24, 2019 at 1:53 pm

    Hello Sir,
    In redeemable debt part b, as suggested if take +85 and other cashflows negative the NPV turns out to be Positive.
    in this case will the company issue debentures?
    whereas if we take -85 the NPV is -ve.
    Will the decision change?

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    • John Moffat says

      September 24, 2019 at 3:49 pm

      What decision? 🙂

      As far as the IRR is concerned it will not change – the IRR is when the NPV is equal to zero and minus zero is still zero 🙂

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      • rohanmehta says

        September 25, 2019 at 10:30 am

        Decision about whether the Gplc shall issue debentures or not.
        I have this understanding that if IRR is greater than Cost of capital then the company shall issue the debentures and if the case is vice versa then the company shall refrain from doing so.

        Due to this understanding i had a doubt that if we get different IRR(+ve/-ve) with different approaches which shall be considered?

        please correct me if i have understood it incorrectly.

      • John Moffat says

        September 25, 2019 at 1:52 pm

        But what you have written is not the case. If the company needs to raise money then they have the choice of issuing debentures or using equity finance. We do not compare with the cost of capital (the cost of capital will change anyway depending on how finance is raised).

        As far as the IRR is concerned I repeat what I said before – the IRR will be the same regardless of the approach taken!

        It may help you to watch my free Paper FM (was F9) lectures on this, because this is revision of Paper FM.

      • rohanmehta says

        September 26, 2019 at 2:45 pm

        Thank you very much. It did help clear my concept.

      • John Moffat says

        September 26, 2019 at 3:12 pm

        You are welcome 🙂

  14. cswannell says

    March 25, 2019 at 7:32 pm

    With redeemable debt, why cant you claim tax relief on any premium you pay at the end of the term?
    I.e. take out a loan with a nominal value of $100 and 10% premium, at the end of the term you pay $110. Why cant you claim tax relief on thr extra $10 which is effectively interest paid on maturity?

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  15. wajahat14 says

    November 2, 2018 at 10:14 am

    how did we got 18.28 i just can,t seem to understand this concept

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    • John Moffat says

      November 2, 2018 at 2:16 pm

      It is the difference between the NPV at 10% (+6.22) and the NPV at 15% (-10.22).

      If you have forgotten IRR calculations then looking at the relevant MA (F2) and FM (F9) lectures will remind you.

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      • kaysonkod says

        January 20, 2020 at 2:11 pm

        But the difference between +6.06 – (-10.22) = 16.28? So how come it is 18.28 in this instance?
        I don’t get it at all

      • John Moffat says

        January 20, 2020 at 3:36 pm

        You are quite correct and I have made a silly mistake in the lecture – I must re-record it. I should have used 16.28 instead of 18.28 and so the answer is slightly different (and the printed answer in the lecture notes does have the correct answer). Sorry about that.

        (Although (and I am not using this as an excuse) I would still have almost certainly got full marks in the exam despite the mistake because the approach was correct and the difference it makes is minimal (and the answer is of course only ever an approximation anyway 🙂 ))

      • Ruciegbunu says

        May 6, 2020 at 2:21 pm

        thanks for clearing that up.

      • John Moffat says

        May 6, 2020 at 3:05 pm

        No problem 🙂

  16. asher100 says

    September 14, 2018 at 11:39 pm

    With regards to example 8, part a, I don’t understand why the PV should equal zero. Shouldn’t the PV be positive for an investor to want to invest?

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    • John Moffat says

      September 15, 2018 at 10:24 am

      Good heavens, no !!

      The amount investors will be prepared to pay is the PV of the future expected receipts discounted at their required rate of return.

      I suggest that you watch the Paper FM lectures on the valuation of securities, because this is revision from Paper FM (F9).

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  17. kim says

    September 3, 2018 at 6:32 pm

    Please what’s the difference between yield to maturity and cost of debt

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    • John Moffat says

      September 4, 2018 at 8:09 am

      The first is the return to investors, the second is the cost to the company.

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  18. 4tcube says

    August 16, 2018 at 7:45 pm

    How did you get 18.08?? This is my first time seeing IRR calculated like so.

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    • 4tcube says

      August 16, 2018 at 7:56 pm

      gotten it.

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      • cswannell says

        March 25, 2019 at 7:32 pm

        With redeemable debt, why cant you claim tax relief on any premium you pay at the end of the term?
        I.e. take out a loan with a nominal value of $100 and 10% premium, at the end of the term you pay $110. Why cant you claim tax relief on thr extra $10 which is effectively interest paid on maturity?

      • John Moffat says

        March 25, 2019 at 7:57 pm

        Because that is UK tax law!

        The interest is tax allowable but the premium is not tax allowable.

      • salwa1786 says

        July 23, 2019 at 4:18 pm

        It’s 16.86 not 18.86

  19. Nigel Wilson says

    August 12, 2018 at 10:04 am

    For example 8(a) the answer is 11.86% not 11.66%. The movement in NPV is -16.28 and not -18.28, due to which the answer you getting is 11.66%

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    • John Moffat says

      August 12, 2018 at 1:55 pm

      Thanks – I will correct it when I have time.
      However the answer printed in the lecture notes is correct at 11.86% 🙂

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  20. okssana says

    July 29, 2018 at 3:35 pm

    Very clear, thank you!

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    • John Moffat says

      July 30, 2018 at 7:21 am

      Thank you for your comment 🙂

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