PBA is a leading investment company in Australia and gives you the below details relating

to the capital structure of the company.

Information concerning raising new capital

Bonds

$1,000 Face value

13% Coupon Rate (Annual Payments)

20 Term (Years)

$25 Discount offered (required) to sell new bonds

$10 Flotation Cost per bond

Preference Shares

11% Required rate to sell new preference shares

$100 Face Value

$3 Flotation cost per share

Ordinary Shares

$83.33 Current Market Price

$4.00 Discount on share price to sell new shares

$5.40 Flotation Cost per bond

$5.00 2019 - Proposed Dividend

Dividend History

$4.63 2019

$4.29 2018

$3.97 2017

$3.68 2016

$3.40 2015

Current Capital Structure

Extract from Balance Sheet

$1,000,000 Long-Term Debt

$800,000 Preference Shares

$2,000,000 Ordinary Shares

Current Market Values

$2,000,000 Long-Term Debt

$750,000 Preference Shares

$4,000,000 Ordinary Shares

Tax Rate

33%

Risk Free Rate

5%

a) Calculate the cost associated with each new source of finance. The firm has no

retained earnings available.

b) Calculate the WACC given the existing weights.

The financial controller does not believe the existing capital structure weights are appropriate to minimise the firm's cost of capital in the medium term and believes they should be as follows

Long-term debt

40%

Preference Shares

15%

Ordinary Shares

45%

c) What impact do these new weights have on the WACC?

The firm is considering the following investment opportunity. (2020-2027)

Data is as follows

Initial Outlay

$1,600,000

Upgrade $700,000 End of Year 4

Upgrade -350,000 Increased sales units per annum - (Year 5-8)

Working Capital $45,000 Increase required

Estimated Life 8 Years

Salvage Value $60,000

Depreciation Rate 0.125 For tax purposes

The machine is fully depreciated by the end of its useful life

Other Cash

Expenses $60,000.00 Per annum (Years 1-4)

Other Cash

Expenses $76,000.00 Per annum (Years 5-8)

Production Costs $0.15 Per Unit

Sales price $0.75 Per Unit (Years 1-4)

Sales price $1.02 Per Unit (Years 5-8)

Prior sales estimates

Year Sales

2010 520000

2011 530000

2012 540000

2013 560000

2014 565000

2015 590000

2016 600000

2017 610000

2018 615559

2019 659000

2020 680000

d) Calculate the Net Present Value, Internal Rate of Return and Payback Period.

The financial controller is considering the use of the Capital Asset Pricing Model as a

surrogate discount factor. The risk-free rate is 5 per cent.

Year Stock Market Index Share Price

2010 2000 $15.00

2011 2400 $25.00

2012 2900 $33.00

2013 3500 $40.00

2014 4200 $45.00

2015 5000 $55.00

2016 5900 $62.00

2017 6000 $68.00

2018 6100 $74.00

2019 6200 $80.00

2020 6300 $83.33

e) Calculate the CAPM

f) Explain why this figure may differ from that calculated above (i.e. Cost of equity

- Ordinary Shares)