1 pts

Stark Industries Ltd has financed its business using a simple capital structure of long-term debt and equity. A balance sheet extract for Stark Industries is given below:

Extract from Balance Sheet 30 June 2019

Liabilities

Debentures ($100 par, 4% p.a. semi-annual coupon) $1,000,000,000

Preference shares ($10 par, 10% semi-annual dividend) $500,000,000

Equity

Ordinary shares ($1 par) $800,000,000

Retained earnings $200,000,000

Additional Information

• An interest payment in relation to the debentures has just been made, and they mature in eight years from today. The current yield on similar risk debentures in the marketplace is 6.00% p.a.
• Forecasts in relation to market returns are as follows: expected rate on 10-year Commonwealth Bonds = 3.25% p.a. compounded annually; expected return on the market portfolio = 9.75% p.a. compounded annually
• Stark Industries preference shares have a dividend yield of 10% every six months on a par value of $10. A dividend payment was made today. The beta of the preference shares is 1.4
• Stark Industries has a levered ordinary share equity beta of 1.7
• Stark Industries ordinary shares are expected to pay a dividend of $0.15 in exactly six months time and this dividend is forecast to grow at 2% every six months in perpetuity
• Both the preference shares and the ordinary shares pay a dividend each six-months
• The company tax rate is 30%
• Stark Industries Ltd operates in a classical tax system

REQUIRED:

1. Calculate the after-tax weighted average cost of Stark Industries Ltd. Show all calculations.
2. When could Stark Industries use this WACC for project evaluation? When shouldnt it use it?