FINANCIAL MANAGEMENT

ASSIGNMENT

NAME : SAIF ALI KHAN S

CLASS : MBA - 'A'

RRN NO : 190292601050

SUBMITTED TO : DR S PANBOLI
 FINANCIAL MANAGEMENT

ASSIGNMENT 3

1. Ganesh ltd. Issued 2.000, 9% Debentures of Rs.100 each

at a premium of 10 %. The issue expenses are 3% . The
tax rate is 40%. Calculate Cost of debt before tax and after
tax.

SOLUTION :

Issued Amount = Rs. 2,000 par value

Interest 9% = 9/100*2,000 = 180
Issued at a premium of 10%
Ip = Par value + premium
= 2,000 + (10/100*2,000)
= 2,000 + 200
Ip = 2,200

Cost of issues​ ​= 2,200 - (2,200*3/100)

= 2,134
​Ip = 2,134

Kd​b =
​ I/IP*100
= 180/2,134*100
Kd​b =​ 8.43%

Kd​n =
​ Kd​b​ (1 - T)
 = 0.0843 (1 - 0.4)
= 0.0843 (0.6)
Kd​n​ = 5.06%

2. ‘X’ Ltd. Issued 20,000, 7% Debentures of Rs.100 each at a

premium of 5 %. The maturity period is 5 years and the
tax rate is 40%. Calculate the cost of debentures before
and after tax if the debentures are redeemable at par.

SOLUTION :

Issued capital = 20,000

Par value = ₹100
Interest 7% = 7/100*100
= ₹7
Issued at premium of 5%
Ip = Par value + premium
​= 100 + (5/100*100)
= 105

Redeem after 5 years, hence n = 5

Hence Mv = Par value = 100

Kd​b​ = I + 1/n ( Mv - Np ) / ½ ( Mv + Np )
= 7 + ⅕ (100 - 105) / ½ (100 + 105)
= 7 +(-1) / 102.5
= 6 / 102.5
Kd​b​ = 0.0585 = 5.85%
Kd​n =
​ Kd​b​ (1 - T)
= 0.0585 (1 - 0.4)
Kd​n =​ 0.0351 = 3.51%

3. Dinesh Ltd. has issued 9%, 10,000 Preference shares of

Rs. 100 each. The issue expenses are Rs.3 per Share. You
are required to ascertain the cost of preference share
capital if the shares are issued (a) at a par; (b) at a
premium of 10 % and (c) at a discount of 5%.

SOLUTION :

No of share = 10,000
Par value = ₹100
Dividend rate = 9%
i.e,​ Dp = 9%of par value
= 9/100*100
= ₹9

● Issued at Par

IP = 100
Cost of issues = ₹3 per share
Np = IP - cost of issues
= 100 - 3
= 97
Kp = Dp/Np
= 9/97
Kp = 0.0927 = 9.27%

● Issued at Premium at 10%

IP = par value + premium
= 100 + (10/100*100)
= 100 + 10
= 110
Cost of issues = ₹3
Np = IP - Cost of issues
= 110 - 3
= 107
Kp = Dp/Np
= 9/107
Kp = 0.0841 = 8.41%

● Issued at discount at 5%

Ip​ ​= par value - discount

= 100 - 5
= 95
Cost of issue = ₹3
Np = Ip - cost of issue
= 95 - 3
= 92
Kp = Dp/Np
= 9/92
Kp = 0.0978 = 9.78%

4. Sandhya Ltd. has issued 12,000, 12% Preference shares

of Rs. 100 each. The shares are redeemable after 10 years
at a premium of 10 %. Flotation costs are 4%. Calculate
the effective cost of redeemable preference share capital.
SOLUTION :

No of share = 12,000
Par value = ₹100
12% preferance share
i.e,​ Dp = 12% of per share
= 12/100*100
= ₹12
Redeemable after 10 years, hence n = 10

Redeemed at a premium of 10%

Mv = Par value + Premium
= 100 + (10/100*100)
= 100 + 10
Mv = 110

Flotation cost of 4%
Np = Par value - flotation cost
= 100 - (4/100*100)
= 100 - 4
Np = 96

Since it is a redeemable preference share

Kp = Dp + 1/n (Mv - Np)/ ½ (Mv + Np)
= 12 + 1/10 (110 - 96)/ ½ (110 + 96)
= 12 + 1.4/103
= 13.4/103
Kp = 0.1301 = 13.01%

5. Akash Ltd. Offers for public subscription equity shares of

Rs.10 each at a premium of 10%. The company pays an
 underwriting commission of 5 % on the issue price. The
Equity shareholders expect a dividend of 15%. (a).
Calculate the cost of Equity capital. (b). Calculate the
cost of Equity capital, if the market price of the share is
Rs.20.

SOLUTION :

(i)
Par value of share = ₹10
Issued at a premium = 10%
Ip = par value + premium
= 10 + (10/100*100)
= 10 + 1
= 11

Underwriting commission = 5%
Np = Ip - Underwriting commission
= 11 - (5/100*11)
= 11 - 0.55
Np = 10.45

D = 15% of par share

= 15/100*10
D​ ​= 1.5

Ke = D/Np
= 1.5/10.45
Ke​ ​= 0.1435 = 14.35%

(ii)
If market price is ₹20
Then, Ke = D/Np
 = 1.5/20
​ Ke = 0.075 = 7.5%

6. The Market price of an equity share of mills Ltd., is

Rs.120. The expected equity dividend is Rs.2.40 Per
share. The shareholders anticipate a growth of 10 % in
Dividends. You are required to calculate cost of equity
capital.

SOLUTION :

Market price = ₹120

Dividend = 2.40 per share
Growth = 10%

Ke = D/MP+G
= 2.40/120+0.10
= 0.02+0.10
Ke = 0.12 = 12%

7. Shukla Ltd., intends to raise Rs.20 lakh by issue of new

equity shares. The relevant particulars are given Below:
No. of existing equity shares - 5 lakhs
Profit after tax - Rs.25 lakhs
Market value of existing shares - Rs. 200 lakhs
You are required to calculate (a) The cost of existing capital
and (b) The cost of new capital if the shares are issued at a
price of Rs.34 per share and the issue expenses are Rs. 4 per
share.
SOLUTION :

(i).
Money needed to raise for new equity share = ₹20,00,000
No of existing shares = 5,00,000
Market value of existing shares (Mv) = ₹200,00,000
Market price of existing shares (Mp) = Mv/no of shares
= 200,00,000/5,00,000
​Mp = ₹40
Profit after tax (net earnings) = ₹25,00,000
Ke = ?
Ke = EPS/Mp
EPS = Net earnings / no of existing equity share
= 25,00,000 / 5,00,000
= ₹5
Ke = EPS /Mp
= 5 / 40
Ke​ =​ 0.125 = 12.5%

(ii).
New shares are issued at a price of ₹34 per share
Issued expenses ₹4 per share
Np = Ip - Cost of new issue
= 34 - 4
​ =​ ​30
Ke = EPS / Mp
= 5 / 30
Ke = 0.1667 = 16.67%
 8. Mr. Raghu purchased 10 shares in Rekha & co. at a cost
of Rs.5,200 on 1.1.2001. He retained the shares for 5 Years
and sold them on 1.1.2006 for Rs. 6,500. The dividends
which he received for the last 5 years are as follows.
Year 2001 2002 2003 2004 2005
Dividend(Rs.) 300 300 320 320 320.
Compute the cost of equity shares.

SOLUTION :

Assuming discount rate as 10%

YEAR DIVIDEND PV@10% PVCIF

(CIF)
2001 300 0.909 272.7
2002 300 0.826 247.8
2003 320 0.751 240.32
2004 320 0.683 218.56
2005 320 0.621 198.72
2006 6,500 0.621 4,036.5
PVCIF 5,214.6
PVCOF 5,200
NPV 14.6
Assuming discount rate as 12%

YEAR DIVIDEND PV@12 PVCIF

(CIF) %
2001 300 0.892 267.6
2002 300 0.797 239.1
2003 320 0.711 227.52
2004 320 0.635 203.2
2005 320 0.567 181.44
2006 6,500 0.567 3,685.5
PVCIF 4,804.3
6
PVCOF 5,200
NPV −395.64

Ke = 10 + 14.6 / 5,214.6 - 4,804.34*(12 - 10)

= 10 + 14.6 / 410.24*2

= 10 + 0.07

Ke = 10.07%

9. Rajam Ltd. Has an annual profit of Rs. 50,000 and the

Required rate of return of the shareholders is 10 %. It is
further expected that the shareholders will have to incur 3
% brokerage cost of the dividends received and invested
by them for making new investments. Find out the cost of
 retained earnings to the firm given that the tax rate
applicable to shareholders is 30%.

SOLUTION :

Retained annual profit = ₹50,000

Required ROI (Ke) = 10%
Brokerage cost (B) = 3%
Tax rate (T) = 30%

Cost of retained earnings (Kr) = Ke (1-T)(1-B)

= 0.10 (1 - 0.30) (1 - 0.03)
Kr = 0.0679 = 6.79%

10. The following information is provided in respect of the

specific cost of capital of different sources along with the
book value (BV) and the market value (MV) weights.
Source Cost of Book Value Market Value
Capital (Rs.) (Rs.)
Equity share 18% 50000 78000
capital
Preference 15 % 20000 47000
share capital
Long term 7% 30000 55000
debts
Retained 12% 20000 -
Earnings
Calculate the weighted average cost of capital, using both the
Book value and the Market value as weights.
SOLUTION :

(i). Book value as weight :

Types of Book value Weight (or) Specific XW

account (₹) proportion cost of
(₹) capital
(X)
Equity 50,000 41.67 18 750.06
share
capital
Preference 20,000 16.67 15 250.05
share
capital
Long term 30,000 25 7 175
debt
Retained 20,000 16.67 12 200.04
earnings
Total 1,20,000 Σweight = ΣXW =
100.01 1375.15

Weighted average cost of capital (Kw)(Book value)

Kw = Σxw / Σweight
= 1375.15 / 100.01
Kw (Bv) = 13.75%
(ii). Market value of weight :

Types of Book value Weight (or) Specific XW

account (₹) proportion cost of
(₹) capital
(X)
Equity 78,000 43.34 18 780.12
share
capital
Preference 47,000 26.12 15 391.8
share
capital
Long term 55,000 30.56 7 213.92
debt
Retained - - - -
earnings
Total 1,80,000 Σweight = ΣXW =
100.02 1385.84

Weighted average cost of capital (Kw)(Market value)

Kw = Σxw / Σweight
= 1385.84 / 100.02
Kw (Mv) = 13.86%