A.) TransUnion was bought by Goldman Sachs and Advent, both investment firms on

Question

A.) TransUnion was bought by Goldman Sachs and Advent, both investment firms on Wall Street, for about $3 billion 4 years ago. Along the way, debt was issued which helped the firm grow. Then, last summer, an IPO happened which moved roughly 10% ownership to the public. So, the question is, with floatation costs, which are very high in an IPO (compared to a seasoned - secondary stock offering), why would a smart firm like Goldman issue such expensive capital? (Hint: not everything is about the cost of capital, sometimes there are other things to fine tune which help optimize the value of the firm)

What are your thoughts, Explain.

B.) In general the statement that the cost of debt capital is lower than the cost of equity capital is correct. The fact is that debt capital is cheaper than equity in regard to higher debt ratios, higher proportion of debt in comparison to equity, and the result is that the lower weighted average cost of capital will be reached. Here is an example that can be considered an exception to the rule: Proportion of debt will start to increase, lenders which are suppliers or debt capital find themselves concerned about the firms risk. As a result they require a higher return on debt to compensate for the risk that has been accumulated. The pre-tax cost of debit is rising and it is forcing the overall cost of capital to increase. This would result in a situation that would increase the overall cost of capital.

What are your thoughts. Explain

Explanation / Answer

A.

Goldsman issued such expensive capital because Transunion a company which was founded in1968 provides a variety of information services for businesses and consumers, including consumer credit reporting, automotive valuation data and analytic services for risk management. It operates in 33 countries in Africa, Asia, Latin America and North America. Its main competitors are the credit reporting bureaus Equifax and Experian.

Also transUnion posted revenue of $1.3 billion in 2014 and narrowed its net loss to $12.5 million last year from $35.1 million in 2013.

So investing money in such a company was not a loss.

B.

Yes, mostly Cost of Equity remains higher than the Cost of Debt.

Reason:

Debt is secured against securities of any firm consequential less risk of loss. Less risk leads to less returns, hence cost would be less. On the other hand risk of loss for the equity holders remains higher and even not secured against any security. Greater uncertainty of receiving dividends and repayment of principal at the end. Against higher risk equity holders expect higher returns. Hence higher cost of Equity.

If debt holders will increase interest rates than debt and equity will be at same level. So companies will issue ore of equity.

Therefore, bond holders will not increase the interest rates of debt.

.

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