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1. for the issue cost calculation, should equity be 10m x 4/96 ?
i can’t understand why they calculated equity issue cost as 10m x 4% ?
2. (in APV calculation), why do we use risk free rate for discounting tax relief on interest payment and value of subsidy ?
i can’t seem to understand why we use risk free rate for discounting those two items. Is it like an assumption ?
1. It depends whether the issue costs are being paid out of the money raised (in which case the money raised must be more than the amount needed for the investment) or whether they are being paid out of existing funds (in which case the money raised will be equal to the amount needed for the investment).
If it is not clear in the question, then (as always for Paper AFM), state your assumption clearly and you will still get the marks.2. You either use the risk free rate, or the pre-tax cost of debt – the examiner always allows either (despite, obviously, the numbers bring different), because there are good arguments for both.
I explain this, and the reasons for it, in my free lectures on APV.for number 1, that means i need to write my own assumption after i have shown calculation ? (like why issue cost is like that ?)
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