Always A Winner Ltd. is considering expanding its gambling network. The Managing

Question

Always A Winner Ltd. is considering expanding its gambling network. The Managing Director of the company, Mr GG, has offered you a good tip for the races if you could provide information on the appropriate %u2018discount rate%u2019 for calculating the viability of the proposed project. To help you with your calculations, he has tabled the following extracts from the company%u2019s latest Financial Statements

Selected Financial data as at 31 December 2002:

SHAREHOLDERS FUNDS

Ordinary shares Issue price $1.00 each, fully paid 20,000,000

10% Preference shares Issue price $2.00 each, fully paid 15,000,000

Retained Profit 14,500,000

LIABILITIES

Debentures 30,000,000

Bank Overdraft 7,000,000

Provision for Long Service Leave 10,000,000

Additional Information:

%u2022 30,000 debentures have been issued with a coupon rate of 8%. They mature in 4 years time. Similar debentures are currently yielding 12%.

%u2022 The bank overdraft carries an interest rate of 12%. Interest is charged quarterly.

%u2022 The current dividend paid is 12 cents per share. This dividend is expected to grow indefinitely at 5% per annum.

%u2022 The expected market return on Always A Winner ordinary shares is 11%.

%u2022 The risk free rate of interest is 6%.

%u2022 The current market price of the Preference Shares $1.50.

%u2022 The company tax rate is 30 %.

Required Calculate the weighted average cost of capital (to 2 decimal places). Show all workings.

(n.b.) listed answer is 10.33%

Explanation / Answer

Current Market price per share = D1/(Re-g) = 0.12*1.05/(0.11-0.06) = $2.10

Market Value of common share = 2.10*20,000,000 = $42,000,000

Market Value of Preference share = 15,000,000/2 *1.50 = $11,250,000

Market Value of per debenture = 80PVIFA(12%,4) + 1000PVIF(12%,4) = $878.50602

Market Value of Debenture = 878.50602*30000 = $26,355,180.60

Bank Overdraft value = 7,000,000

Weights of

Common share = 0.485

Pref. Share = 0.130

Debenture = 0.304

Bank Overdraft = 0.081

Cost of equity = 11%

Cost of debenture = 8*0.70 = 5.60%

Cost of Bank Overdraft = 12*0.70 = 8.40%

Cost of Pref Share = 10%

WACC = 0.485*11 + 0.130*10 + 0.304*5.60 + 0.081*8.40 =9.02%

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