Cost of Capital

Cost of equity: Dividend yield plus

growth in dividend method
Illustration 1

1. (a) A co. plans to issue 1000 new

shares of Rs.100 each at par. The
floatation costs are expected to be
5% of the share price. The co pays a
dividend of Rs.10 per share initially
and the growth in dividend is
expected to be 5%. Calculate cost of
equity.
(b) If the current market price of an
equity share is Rs. 150. Calculate cost

Illustration 2
The shares of a company are selling at
Rs.40 per share and it had paid a
dividend of Rs.4 per share last year.
The investors market expects a
growth rate of 5% per year.
Calculate cost of equity.
If the anticipated growth rate is 7%
p.a, calculate the indicated market
price per share.

Earning Yield Method

Illustration 3
A firm is considering an expenditure of
Rs.60 lakhs for expanding its
No of existing equity shares
10 lakhs
operations.
Market Value of existing equity shares
Net earnings

60

90 lakhs

Compute the cost of equity share

capital and of new equity share capital
assuming that new shares will be
priced at Rs.52 per share and the cost
of new issue will be Rs.2 per share.

WACC: Illustration 4
A firm has the following capital
structure and after-tax costs for
of
different Sources
sources
of
funds
used:
funds
Amt
After tax cost
Debt
Preference
Share
Equity Shares
Retained
Earnings

1,500,000

1,200,000
1,800,000

10
12

1,500,000
6,000,000

11

You are required to compute the

WACC.

Illustration 5
Continuing, if the firm has 18,000
equity shares of Rs.100 each
outstanding and the current market
price is Rs.300 per share, calculate
the market value WACC assuming
that market value and book value of
debt and preference capital are
same.

Capital Structure in Lakhs

Illustration 6

Equity Capital(Rs. 10 par value)

200

14% Preference share capital of Rs.100 each

100

Retained Earnings

100

12% debentures(Rs.100 each)

300

11% Term Loan from ICICI Bank

50
750

The market price per equity share is Rs. 32. The company is expected
to declare a dividend per share of Rs. 2 per share and there will be a
growth of 10% in the dividends.
The preference shares are redeemed at a premium of Rs. 5 per share
after 8 years and are currently traded at Rs. 84 in the market.
Debenture redemption will take place after 7 years at a premium of Rs.
5 per debenture and their current market price is Rs. 90 per unit.
Tax Rate- 40%
Compute WACC.