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Corporate Finance
- Amit works in an organization which has Debt and Equity in its capital structure. The net income of the firm is ₹3,00,000. The organization pays ₹ 75,000 every year as interest component to debenture holder. Calculate the weighted average cost of capital if the cost of Equity is 14% and cost of Debt is 10%. If the company’s new project will provide a return of 11%, suggest whether company should make the investment or not.
SOLUTION:
Introduction-
Weight Average cost of capital may be called a financial metric, which is used to measure the value of money to a firm. It is most typically used to provide a discount rate for a financed project. Weighted Average cost of capital is employed to work out the discount rate utilized in a DCF valuation model. The weighted average cost of capital (WACC) is a calculation of the firm’s cost of capital
2. Mr. Mehta was working with Delta Ltd for the past ten years. The company was planning for expansion and required funding of ₹ 25,00,000 for the same. He was considering two financial plans, and expected EBIT due to increase was ₹ 12,00,000. The firm was considering to raise funds through Equity (Face value ₹10) and the debt @8%. Suggest should the company raise capital through all Equity or equal proportion of Debt and Equity based on EPS. Assume tax rate as 35%
SOLUTION:
Introduction-
Capital Structure of a firm is a mixture of all long-term sources of fund and some specific short -term liabilities which includes Equity Capital, Reserves and Surplus, Preference Share Capital, Loans or Debentures, banknotes, and bonds. The business uses these funds for its operations and growth. The capital structure of a firm is presented on the right side of the Balance Sheet under the head Liabilities.
In the given problem, the company needs to decide the proportion in which it should acquire the funds for expansion. The
3. Solve the following:
- A company earns ₹7 per share. The cost of capital is 10%, the Rate of return on investment is 12%, and the dividend payout ratio is 20%. Calculate the value of each share by using Walter’s Model.
(5 Marks)
- XYZ Limited has a paid-up share capital of ₹15 lakhs of ₹10 each. The company has a dividend payout rate of 15%. Annual growth rate is expected to be 3%. The capitalization rate is 15%. Calculate the value of the share of XYZ based on Gordon’s Model.
(5 Marks)
The solution to part (a)
Introduction-
Walter’s Model establishes the relationship between Dividend paid and the market price per share.
Interpretation-
- If r>K,
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