Calculate Cost of Capital & WACC for Excellent Ltd - Accounting Question

(a) Cost of capital:

(i) Ordinary share: Dividend yield = $0.2/$10 = 2% Growth rate = 8% Cost of equity = (Dividend yield + Growth rate) = 10%

(ii) 7% preference share: Cost of preference share = 7%

(iii) 9% perpetual bond: Cost of perpetual bond = 9%*(1-0.15) = 7.65%

(iv) New 13% coupon bond: Coupon rate = 13% Market price = $1,000*(95%) = $950 Yield to maturity = 14% Yield to maturity - coupon rate = 14% - 13% = 1% Market value weight = ($2,000,000/$950)/($2,000,000/$950 + $1,200,000/$1,000 + $360,000/$900) = 54.8% Cost of new coupon bond = 13% + (1%*54.8%) = 13.548%

(v) New zero-coupon bond: Market value = $360,000 Market price = $360,000*(90%) = $324,000 Yield to maturity = [(1000/324,000)^(1/3)] - 1 = -8.62% Cost of new zero-coupon bond = -8.62%

(b) Weighted average cost of capital (WACC): Market value of issued shares = $16,000,000 Market value of preference shares = $4,500,000 Market value of perpetual bond = $2,160,000 Market value of new coupon bond = $1,900,000 Market value of new zero-coupon bond = $360,000 Total market value = $24,920,000

Weighted average cost of capital (WACC) = [(Market value of issued shares x Cost of equity) + (Market value of preference shares x Cost of preference share) + (Market value of perpetual bond x Cost of perpetual bond) + (Market value of new coupon bond x Cost of new coupon bond) + (Market value of new zero-coupon bond x Cost of new zero-coupon bond)] / Total market value WACC = [(16,000,000 x 10%) + (4,500,000 x 7%) + (2,160,000 x 7.65%) + (1,900,000 x 13.548%) + (360,000 x -8.62%)] / $24,920,000 WACC = 10.11%