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Hi Sir,
Please can you advise why the issue costs are $100m and how this is derived?
Also can you please tell me why the 9% rate is used for the Annuity factor for the tax shield on subsidised loan. Why is the 3.5% one ignored?
Thank you
The issue costs are not $100m. They are $2M.
The question says that they are 2% of the external financing, and the external financing is 10 + 40 + 150 = $100m.
The discount rate used for the tax shield is the rate applicable to the risk attaching to the borrowing, which can be taken as being either the normal rate on borrowing (here 9%) or the risk free rate (here 3%). As I explain in my free lectures, there is a logic for both and therefore the examiner always accepts either.
Thank you John – noted regarding the rates on the tax shield.
In relation to the external financing, how do you get 10+40+150 and what do these figures relate to?
Sorry I mistyped – it is 10 + 40 + 50 (not 150).
Under ‘project information’ in the question, it says how the $120m for the investment is being financed. $20m of it is coming from the disposal of existing equipment, but the rest of it is new finance being raised (rights issue, loan, and bank loan).
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