The finance manager of Kilimani Limited has compiled the following a. information regarding the company's capital structure.

i.Ordinary Share: The Company's equity shares are currently selling at Sh100 per share. Over the past five years, the company's dividend pay-outs which have been approximately 60% of the earnings per share, were as follows:

Year ended 31 December Dividend per share

2015 6.60

2016 6.25

2017 5.85

2018 5.50

2019 5.23

The dividend for the year ended 31 December 2015 was recently paid. To issue additional ordinary shares, the company would have to issue at a discount of Sh4 per share and it would cost Sh2 in floatation costs per share. The company can issue unlimited number of shares under the above terms.

ii.Preference shares: The Company can issue an unlimited number of 10% preference shares of Sh100 par value at a floatation cost of 5% of the face value per share. The shares are currently changing hands at Sh90 each.

iii.Debt: The Company can raise funds by selling Sh100, 10% coupon interest rate, 10 year-bonds will be issued at a discount of Sh4 per bond and a floatation cost of an equal amount per bond will be incurred.

iv.Capital structure: The company's current capital structure, which is considered optimal is:

KShs

Long Term Debt 30,000,000

Preference Shares 20,000,000

Ordinary Shares 45,000,000

Retained Earnings 5,000,000

100,000,000

The company is in the 30% tax bracket.

Required:

a.The specific cost of each source of financing.

b.The level of total financing at which a breakeven point will occur in the company's weighted marginal cost of capital. Also calculate the MCC at this point.

1.Using an example of a new developed company trading in east Africa, advice the management factors they will consider on determining the cost of capital

2.Three proposals were put forward for further consideration after a meeting of the executive directors of Tumbokubwa Ltd to discuss the future investment and financing strategy of the business. Tumbokubwa Ltd is a listed company operating in the haulage and shipping industry.

Proposal 1

To increase the company's level of debt by borrowing a further shs20 million and use the funds raised to buy back share capital.

Proposal 2

To increase the company's level of debt by borrowing a further shs20 million and use these funds to invest in additional non-current assets in the haulage strategic business unit.

Proposal 3

To sell excess non-current haulage assets with a net book value of shs25 million for shs27 million and focus on offering more services to the shipping strategic business unit. This business unit will require no additional investment in non-current assets. All the funds raised from the sale of the non-current assets will be used to reduce the company's debt.

Required

Estimate and discuss the impact of each of the three proposals on the gearing of Tumbokubwa Ltd.