Mendy Enterprises ltd is considering expansion of their business and one of the most critical issues involve additional financing. They have been advised by a consultant that there are two sources of finance that would not affect the ownership structure (which they indicated should not be changed for now).

These two sources are:

Issue an 8% preferred stock of ksh 18,000,000 at any premium from the range of (4%-12%)

Issue an 8% irredeemable debt with a par value of ksh 18,000,000 at any discount from the range of (4%-12%)

Mendy Enterprises is governed by the Kenyan tax laws as relates to any other company. Required: Suggest with adequate explanation if theres any premium or discount from the range given that would establish a basis for preference for any of the two financing alternatives. (10 Marks)

Baraka ltd is evaluating its cost of capital under alternative financing arrangements. In consultation with investment advisers, the company expects to be able to issue new 6-year debenture/debt with a par value of ksh 9,000,000 with a coupon rate of 12% at a premium of 5% redeemable at a discount of 2%, OR to issue new preferred stock with a ksh. 8.50 per share dividend.

The corporation tax rate is 30%. Required:

Calculate the issue price for the preference stock that would establish an indifference between the two sources of finance to Baraka ltd. (6 Marks)

Discuss any overriding factors that may still establish a basis for preference in spite of the indifference demonstrated above and suggest the source of finance in whose favour the bias would lean