Paramhans Limited has a capital structure that consists of Equity share capital, Reserves & Surplus, Bank term loan, Debentures which are…

CA Intermediate · Financial Management and Strategic Management · RTP · May 2025
Paramhans Limited has a capital structure that consists of Equity share capital, Reserves & Surplus, Bank term loan, Debentures which are redeemable at a premium of 5% and Preference share capital redeemable at premium of 5%. The coupon rate on debentures is 1.5 times of that of bank term loan coupon rate whereas the preference dividend rate is 1.5 times of debentures' interest rate. Tenure for the bank term loan, debentures and preference share capital is 3 years, 5 years and 7 years respectively. The current book value of the capital structure is as follows - Particulars Amount (₹) Equity Share Capital (FV = 100) 25,00,000 Reserves And Surplus 10,00,000 Bank Term Loan 10,00,000 Debentures (FV = 100) 15,00,000 Preference Share Capital (FV = 100) 20,00,000 TOTAL 80,00,000 Tax rate applicable to the company is 25%. Debentures are currently selling at a price of 96whereas Preference shares are currently selling at 102. The equity shares of the company are quoted at 150 per share. The ongoing P/E ratio for the shares of Paramhans Limited is at 6.667 times. Paramhans Limited belongs to a risk class where the overall capitalization and discounting rate of the company is at 20% CALCULATE – (A) Rate of Interest on Bank term Loan & Debentures (B) Rate of Preference dividend (C) WACC using Market Value weights

Suggested Answer and Working Notes:

(A) Calculation of Interest rate on Bank term Loan & Debentures Let the rate of interest on bank term loan be 'X' Therefore, Rate of Interest on debentures = 1.5X Rate of Preference dividend = 1.5 x 1.5X = 2.25X (1.5 times of debentures interest rate) Now, lets calculate Kd (term loan), Kd (debentures), Kp (Pref. shares) & Ke Kd (Term loan) = Int (1-t) = X (1 – 0.25) = 0.75X Kd (Debentures) = [I(1-t) + (RV-NP)/n] / [(RV+NP)/2] RV = 100 + 5% = 105 NP = Issue Price / Market price = 96 Kp = [PD + (RV-NP)/n] / [(RV+NP)/2] RV = 100 + 5% = 105 NP = Issue price / Market price = 102 Ke = 1 / PE Ratio = 1 / 6.667 = 15% Therefore, Ke = 15% Kr = Ke = 15% (In absence of information on opportunity cost) Overall Capitalization rate (Ko) = 20% (given) Sources of capital Amount of capital Weights (W) Cost (K) W x K Equity share capital 25,00,000 0.3125 15 4.6875 Reserves & surplus 10,00,000 0.1250 15 1.8750 Bank term loan 10,00,000 0.1250 0.75X 0.09375X Debentures 15,00,000 0.1875 (112.5X + 1.8) / 100.5 (21.094X + 0.3375) / 100.5 Preference share capital 20,00,000 0.2500 (225X + 0.4286) / 103.5 (56.25X + 0.1072) / 103.5 80,00,000 1.0000 Ko/WACC 20% 20 = 4.6875 + 1.8750 + 0.09375X + (21.094X + 0.3375) / 100.5 + (56.25X + 0.1072) / 103.5 On solving the above equation, 13.4375 = 0.09375X + (2183.2 X + 34.931 + 5653.125X + 10.774) / 10,401.75 1,39,773.52 = 975.16X + 2,183.2 X + 5,653.125X + 45.705 1,39,727.815 = 8,811.485X X = Rate of Interest on Bank term Loan = 15.86% Rate of Interest on Debentures = 15.86 x 1.5 = 23.79% Rate of Preference Dividend = 15.86 x 2.25 = 35.68% (B) Calculation of WACC using Market Value weights Sources Market value Weights (W) Cost (K) W x K Equity share capital 37,50,000 0.456 15.000 6.83 Bank term loan 10,00,000 0.122 11.895 1.45 Debentures 14,40,000 0.175 17.843 3.12 Preference share capital 20,40,000 0.248 26.764 6.63 Total 82,30,000 1 Ko/WACC 18.04 WN - Calculation of Market Value of each capital sources MV of Equity = 25,000 x 150 = 37,50,000 **MV of Reserves & Surplus = Already Included in the Equity Above MV of Term Loan = 10,00,000

Topics: Part-A: Financial Management

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