(b) Using the financial information provided below, calculate the Weighted Average Cost of Capital (WACC). Determine the WACC by applying both the…

CA Intermediate · Financial Management and Strategic Management · MTP · September 2026
(b) Using the financial information provided below, calculate the Weighted Average Cost of Capital (WACC). Determine the WACC by applying both the book value weights and the market value weights and present the results separately for each method. Calculate the WACC using the following data by using: The capital structure of the company is as under: Particulars (₹) Debentures (₹100 per debenture) 5,00,000 Preference shares (₹100 per share) 5,00,000 Equity shares (₹10 per share) 10,00,000 20,00,000 The current market prices of the company's securities are as follows: each debenture is quoted at ₹105, each preference share is trading at ₹110, and each equity share has a market price of ₹24." Additional information: (i) ₹100 per debenture redeemable at par, 10% coupon rate, 4% floatation costs, 10-year maturity. (ii) ₹100 per preference share redeemable at par, 5% coupon rate, 2% floatation cost and 10-year maturity. (iii) Equity shares has 4 floatation cost and market price ₹24 per share. The next year expected dividend is ₹1 with annual growth of 5%. The firm has practice of paying all earnings in the form of dividend. Corporate tax rate is 30%. Use YTM method to calculate cost of debentures and preference shares.

Suggested Answer and Working Notes:

(b) (i) Cost of Equity (K e ) = D1 + g = ₹1 + 0.05 = 0.1 or 10% P O -F ₹24-4 (ii) Cost of Debt (K d ) Current market price (P o ) – floatation cost = I(1-t) × PVAF(r,10) + RV × PVIF(r,10) ₹105 – 4% of ₹105 = ₹10 (1-0.3) × PVAF (r,10) + ₹100 × PVIF (r,10) Calculation of NPV at discount rate of 5% and 7% Year Cash flows (₹) Discount factor @ 5% Present Value Discount factor @ 7% Present Value (₹) 0 100.8 1.000 (100.8) 1.000 (100.8) 1 to 10 7 7.722 54.05 7.024 49.17 10 100 0.614 61.40 0.508 50.80 NPV +14.65 -0.83 Calculation of IRR IRR = 5% + 14.65 (7% - 5%) = 5% + 14.65 (7% - 5%) = 6.89% 14.65-(-0.83) 15.48 Cost of Debt (K d ) = 6.89% (iii) Cost of Preference shares (K p ) Current market price (P o ) – floatation cost = PD × PVAF(r,10) + RV × PVIF(r,10) ₹110 – 2% of ₹110 = ₹5 × PVAF (r,10) + ₹100 × PVIF (r,10) Calculation of NPV at discount rate of 3% and 5% Year Cash flows (₹) Discount factor @ 3% Present Value Discount factor @ 5% Present Value (₹) 0 107.8 1.000 (107.8) 1.000 (107.8) 1 to 10 5 8.530 42.65 7.722 38.61 10 100 0.744 74.40 0.614 61.40 NPV +9.25 -7.79 Calculation of IRR IRR = 3% + 9.25 (5% - 3%) = 3% + 9.25 (5% - 3%) = 4.08% 9.25-(-7.79) 17.04 Cost of Preference Shares (K p ) = 4.08% (a) Calculation of WACC using book value weights Source of capital Book Value Weights After tax cost of capital WACC (K o ) (₹) (a) (b) (c) = (a)x(b) 10% Debentures 5,00,000 0.25 0.0689 0.01723 5% Preference shares 5,00,000 0.25 0.0408 0.0102 Equity shares 10,00,000 0.50 0.10 0.05000 20,00,000 1.00 0.07743 WACC (K o ) = 0.07743 or 7.74% (b) Calculation of WACC using market value weights Source of capital Market Value Weights After tax cost of capital WACC (K o ) (₹) (a) (b) (c) = (a)x(b) 10% Debentures (₹105×5,000) 5,25,000 0.151 0.0689 0.0104 5% Preference shares (₹110×5,000) 5,50,000 0.158 0.0408 0.0064 Equity shares (₹24×1,00,000) 24,00,000 0.691 0.10 0.0691 34,75,000 1.000 0.0859 WACC (K o ) = 0.0859 or 8.59%

Topics: Part-A: Financial Management

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