Gitarth Limited has a current debt equity ratio of 3:7. The company is presently considering several alternative investment proposals costing less…

Calculation of slab wise Overall Cost of Capital (i) Project Cost Capital Source Weights (w) Cost (k) w x k (%) Upto 5 Lakhs Debt 0.3 10 3 Equity 0.7 12 8.4 Ko 11.4 Above 5 lakhs upto 10 lakhs Debt 0.3 12 3.6 Equity 0.7 13.5 9.45 Ko 13.05 Above 10 lakhs upto 20 lakhs Debt 0.3 13 3.9 Equity 0.7 15 10.5 Ko 14.4 Above 20 lakhs Debt 0.3 14 4.2 Equity 0.7 16 11.2 Ko 15.4 Cost of Raising funds for Project I Total Capital Ko(%) Total Cost (in ₹) 5,00,000 11.40 57,000 5,00,000 13.05 65,250 5,00,000 14.40 72,000 15,00,000 1,94,250 Overall COC (%) = Total Cost (in ₹) / Total Capital = 1,94,250/15,00,000 * 100 = 12.95% Cost of Raising funds for Project II Total Capital Ko(%) Total Cost (in ₹) 5,00,000 11.4 57,000 5,00,000 13.05 65,250 10,00,000 14.4 1,44,000 6,00,000 15.4 92,400 26,00,000 3,58,650 Overall COC (%) = 358650 / 2600000 * 100 = 13.79% (ii) If any project is expected to give an after-tax return of 13%, it can be accepted only if the maximum Overall COC (%) of that project equals 13% or less, as at 13%, project would be at break-even i.e earning 13% from the project and incurring 13% COC. So, under that scenario, Project I can be taken as its COC is 12.95% whereas Project II can't be taken as its COC is 13.79%. Maximum Value of the Project that can be taken at 13% is approx. (Using IRR technique Interpolation) At 15 Lakhs Ko = 12.95% At 26 Lakhs Ko = 13.79% By interpolation, maximum value of Project at 13% will be 15 Lakhs + {(0.05 x 11)/0.84} = 15.6548 lakhs