P Ltd. has the following capital structure at book-value as on 31st March, 2024: Particulars (₹) Equity share capital (1,00,000 shares) 10,00,000…

CA Intermediate · Financial Management and Strategic Management · MTP · January 2025
P Ltd. has the following capital structure at book-value as on 31st March, 2024: Particulars (₹) Equity share capital (1,00,000 shares) 10,00,000 12% Preference shares 15,00,000 10% Debentures 15,00,000 40,00,000 Additional Information: The equity shares of P Ltd. are currently traded at 100 per share.The company expects to pay a dividend of 5 per equity share next year, with dividends projected to grow perpetually at a rate of 5% p.a.The corporate tax rate is 35%. Requirements: CALCULATE the Weighted Average Cost of Capital (WACC) based on the current capital structure.RECALCULATE the WACC if the company raises an additional 5 lakhs of debt by issuing 12% debentures. This change will result in:An increase in the expected equity dividend to 7 per share while the growth rate remains constant at 5%.A decrease in the market price of equity shares to 90 per share

Suggested Answer and Working Notes:

(i) Computation of Weighted Average Cost of Capital based on existing capital structure Source of Capital Existing Capital structure (₹) Weights (a) After tax cost of capital (%) (b) WACC (%) (a) x (b) Equity share capital (W.N.1) 10,00,000 0.250 10.000 2.500 12% Preference share capital 15,00,000 0.375 12.000 4.500 10% Debentures (W.N.2) 15,00,000 0.375 6.500 2.438 Total 40,00,000 1.000 9.438 Working Notes: Cost of Equity Capital: K e = Expected dividend (D 1 ) / Current Market Price (P 0 ) + Growth (g) = 5 /100 + 0.05 = 10% Cost of 10% Debentures K d = Interest (1-t) / Net proceeds = 1,50,000 (1-0.35) /15,00,000 = 0.065 or 6.5% (ii) Computation of Weighted Average Cost of Capital based on new capital structure Source of Capital New Capital structure (₹) Weights (a) After tax cost of capital (%) (b) WACC (%) (a) x (b) Equity share capital (W.N.3) 10,00,000 0.222 12.777 2.836 12% Preference share capital 15,00,000 0.334 12.000 4.000 10% Debentures (W.N.2) 15,00,000 0.333 6.500 2.165 12% Debentures (W.N.4) 5,00,000 0.111 7.800 0.866 Total 45,00,000 1.000 9.867 Working Notes: Cost of Equity Capital: K e = 7 /90 + 0.05 = 12.777% Cost of 12% Debentures K d = 60,000 (1-0.35) /5,00,000 = 0.078 or 7.8%

Topics: Part-A: Financial Management

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