Question

James Company requires capital to be used for investment funding of $ 2,000,000,000, - which consists of several sources of funds. The following is the amount of each of these funding sources:

1. Long Term Debt (in the form of bonds)

The amount of funding from the Long-Term Debt is $. 500,000,000, -, with a nominal value of $ 500,000 per sheet. The interest given is 20% per year with a bond term of 5 (five) years. The selling price of the bonds is $ 462,500, - per sheet. The tax assumption is 30%.

2. Preferred Stock

Total funding from preferred share capital is $ 400,000,000, -. The selling price of the preferred stock is Rp. 31,250, - each with a dividend of $ 4,500, - per sheet.

3. Common Stock

The amount of funding from ordinary share capital is $. 1,100,000,000, -. The selling price of the common shares is $ 22,500, - with dividends of $. 3,125, - each sheet in the first year. And it is also known that the growth value is 5%.

From the information above, calculate:

1. Cost of capital from each of the above sources of capital.

2. Cost of capital as a whole or Weighted Average Cost of Capital.

Answer 1

Cost of debt = cost of debt before tax*(1-tax rate)

Effective interest rate = Periodic interest payment/Net proceeds from debt

Effective interest rate  = $100,000/$462,500 = 21.621 %

Cost of dbet = 21.621%(1-.3) = 15.135%

Cost of preferance stock = Dividend/ Net proceeds

Cost of preferance stock =  4500/31250 = 14.4%

Cost of common stock = ( Next annual dividend/net proceeds) + Growth rate

Cost of common stock = (3281.25/22500) + .05 = 19.583%

Weighted Average Cost of Capital

Cost of debt = 15.135*25% 3.783

Cost of preferance stock = 14.4*20% 2.88

Cost of common stock =19.583*55% 10.77

Weighted average cost of capital 17.433