Question 3 [20 marks]

Western Mining has debt outstanding of $300 million in market value, consisting of 7% coupon bonds with a maturity of 10 years. The bonds pay semi-annual coupons with a face value of $1,000 and priced at $1,024.87 each. The company also has 2 million preference shares outstanding with a market price of $20 each, paying an annual dividend of $1.05. It has 14 million ordinary shares outstanding, priced at $21.00 a share. The company is expected to pay a $1.20 ordinary dividend 1 year from today, and future dividend is expected to increase by 7% per year forever. The relevant corporate tax rate is 30%.

a. Discuss the key steps required to estimate the companys weighted average cost of capital (3 marks).

b. Calculate the after-tax cost of each of the companys current financing sources (9 marks).

c. Using the information provided, calculate the market values for the financing sources for the company (3 marks).

d. Using the information from b.) and c.) calculate the companys after-tax weighted average cost of capital. If the investors' expected return is 14% per year, is the company creating additional wealth for the shareholders? (5 marks).