Hello sir,
Hope you are fine!
I have a doubt in the question below:
Ingram plcs capital structure is as follows: $m
50 c ordinary shares . 12
8%$1 preference shares. 6
12.5% loan notes 2006. 8
Total. 26
The loan notes are redeemable at their nominal value in 2006. The current market prices of the company’s securities are as follows:
50 c ordinary shares. 250c
8%$1 preference shares. 92c
12.5% loan notes 2006. $100
The company is paying corporation tax at the rate of 30%. The cost of the company’s ordinary equity capital has been estimated at 18% pa
What is the companys weighted average cost of capital for capital investment appraisal purposes?
Sir the solution is mentioned as
K=[0.18*(24*2.50)+(8/92)*6*0.92+0.125*(1-0.30)*8]/[24*2.50+6*0.92+8]
=16.29
Sir please explain the solution part as you have done in the lectures since I completely understood your calculations but this solution has got me really confused!
Please help me sir!
Thank you sir!
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7y ago#1The cost of equity is 18%
The cost of preference shares is 8/92 = 8.70%
The cost of debt is 12.5/100 x (1 - 0.30) = 8.75% (we don't need to calculate the IRR because the redemption is of the same amount as the market value).
The market value of equity is 24M shares x $2.50 = $60M
The market value of preference shares is 6M x $0.92 = $5.52M
The market value of debt is 8M x 100/100 = $8
The total market value = 60 + 5.52 + 8 = 73.52M
So WACC = (60/73.52 x 18) + (5.52/73.52 x 8.70) + (8/73.52 x 8.75) = 16.29%
(Did you attempt the question yourself before looking at the answer?)
Yes Sir I attempted the question myself first but got stuck half way because I got confused in calculating IRR for redeemable debt without being given which discount rate to use and also I assumed that we will subtract tax while calculating cost of preference shares as we did for debt cost calculation.
Thanks alot Sir once again!.
Your explanation is of great help always!
7y ago#3You are welcome :-)
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