ierra Vista Industries (SVI) wishes to estimate its cost of capital for the use in the analyzing projects that are similar to those that already exist. The firm’s current capital structure in terms of market value includes 40 percent debt, 10 percent preference shares and 50 percent ordinary shares. The firm’s debt has as average yield to maturity of 8.3 percent. Its preference shares have a GH¢ 70 par value, an 8 percent dividend, and are currently selling for GH¢ 76 per share. SVI’s beta is 1.05, risk-free rate is 4 percent and return on the S&P 500 (the market proxy) is 11.4 percent. SVI is in the 40 percent marginal tax bracket. 1. what are SVI’s pre-tax costs of debt, preference shares and ordinary shares? 2. Calculate SVI’s weighted average cost of capital (WACC) on both a pre-tax and an after-tax basis. Which WACC should SVI use when making investment decisions? 3. SVIS is contemplating a major investment that is expected to increase both its operation and financial leverage. Its new capital structure will contain 50 percent debt, 10 percent preference shares and 40 percent ordinary shares. As a result of the proposed investment, the firm’s average yield to maturity on debt is expected to increase to 9 percent, the market value of preference shares is expected to fall to their GH¢ 70 par value and its beta is expected to rise to 1.15. what effect will this investment have to SVI’s WACC? Explain your finding.
Sierra Vista Industries (SVI) wishes to estimate its cost of capital for the use in the analyzing projects that are similar to those that already exist. The firm’s current capital structure in terms of market value includes 40 percent debt, 10 percent
1. what are SVI’s pre-tax costs of debt, preference shares and ordinary shares?
2. Calculate SVI’s weighted average cost of capital (WACC) on both a pre-tax and an after-tax basis. Which WACC should SVI use when making investment decisions?
3. SVIS is contemplating a major investment that is expected to increase both its operation and financial leverage. Its new capital structure will contain 50 percent debt, 10 percent preference shares and 40 percent ordinary shares. As a result of the proposed investment, the firm’s average yield to maturity on debt is expected to increase to 9 percent, the market value of preference shares is expected to fall to their GH¢ 70 par value and its beta is expected to rise to 1.15. what effect will this investment have to SVI’s WACC? Explain your finding.
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