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- This topic has 1 reply, 2 voices, and was last updated 11 months ago by John Moffat.

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- February 21, 2022 at 7:26 am #649029
The equity beta of Fence Co is 0.9 and the company has issued 10 million ordinary shares.

The market value of each ordinary share is $7.50. The company is also financed by 7%

bonds with a nominal value of $100 per bond, which will be redeemed in seven years’ time

at nominal value. The bonds have a total nominal value of $14 million. Interest on the

bonds has just been paid and the current market value of each bond is $107.14.

Fence Co plans to invest in a project that is different to its existing business operations and

has identified a company in the same business area as the project, Hex Co. The equity beta

of Hex Co is 1.2 and the company has an equity market value of $54 million. The market

value of the debt of Hex Co is $12 million.

The risk-free rate of return is 4% per year and the average return on the stock market is

11% per year. Both companies pay corporation tax at a rate of 20% per year.Required:

(a) Calculate the current weighted average cost of capital of Fence Co.Discount Factor for IRR is choosen as 5% & 4%.

My question is, how do you determine which Discount factor to start with ?

February 21, 2022 at 9:41 am #649049As I explain in my free lectures, it does not. matter what ‘two guesses’ you use (although I do explain the way I think about it in the lecture).

Appreciate however that in Section C questions you do not need to make two guesses anyway because you can use the IRR function on the spreadsheet.

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