Cost of Capital (20 marks)

Aurizon Holdings (AH) is a publicly listed rail freight company in Australia. The current share price of AH is $4.80 per share. AH has 111 million shares outstanding, $55 million in debt, and $14 million in cash. AH plans to pay $0.25 per share in dividends in the coming year and the dividends are expected to grow by 3% per year in the future. AHs long-term debt consists of bonds issued with a face value of $55 million with 10 years to maturity with annual coupon rate of 6% (APR). The long-term bonds are currently trading at par value. The beta of AH is 1.11, the risk-free rate is 2%, and the required return on the market portfolio is 6%. The corporate tax rate is 30%.

1. 1. What is the AHs cost of equity based on dividend discount model (DDM)? What is the associated dividend yield and capital gain yield? (6 marks)
   2. What is the AHs cost of equity based on capital asset pricing model (CAPM)? (4 marks)
2. 3. What would the growth rate in DDM has to be in order to reach the same consensus as CAPM? (2 marks)
   4. What is the AHs after-tax cost of debt? (3 marks)
   5. Using the average cost of equity obtained using DDM and CAPM in part (a) and (b) above, calculate AHs weighted average cost of capital (WACC)? (5 marks)