International Finance Coursework Example | Topics and Well Written Essays - 3500 words

International Finance - Coursework Example ) Rate of return Weightage(?) Equity Shares 720,000,000 9.50% 68,400,000.00 Bank overdraft 169,800,000 6% 10,188,000.00 Redeemable bond 310,200,000 3.52% 10,905,381.42   Total 1,200,000,000 89,493,381.42 WACC 7.46% Current Debt to Equity ratio Debt 480,000,000 Equity 720,000,000 Ratio 0.67 The weighted average cost of capital of the company is the weighted average of the various sources of finance used by the company. Debt is cheaper than equity finance as it lower risk prone and there is always a tax incentive. Increasing amount of debt in the capital structure of the company has its disadvantages as well. Increasing level of debts increases the financial risk of a company which eventually increases the cost of equity as well. The weighted average cost of capital of highly geared company is higher as compared to the others. In the given case study, the company, vagabond plc, is not a highly geared company as against every ? 0.67 worth of debt, the company has ? 1 worth of equity. In order to calculate the weighted average cost of capital of the company, the market value of equity and debt instrument is need to be calculated. The shares of Vagabond plc are currently traded at 36 pence which makes the total market value of the equity to ?720 million. In order to calculate the cost of equity (ke) we use the formula as enumerated in table 1. In the mentioned formula Rf is the risk free rate of return where Rm is the current market rate. Rm-Rf represents the market premium. Beta measures the systematic risk (associated with the environment in which the entity operates) of the company in relation to the current market risk. The company currently has debt through two resources i.e. through bank overdraft and an issuance of redeemable debt bond. For bank overdraft the cost of debt is the rate on which the company pays interest. For the redeemable bond, the cost of debt can be calculated as mentioned in Table 2. Since interest (Coupon x Face value of the debt) is the only cash flow, the IRR of the cash flows is the cost of the debt kd. The weighted average cost of capital (WACC) of the company is calculated by considering all the sources of capital and their rate of return. b) The revised weighted average cost of capital for Vagabond Plc, after consideration of the project is as follows. Calculating the revised capital structure Current Debt to Equity ratio Debt 480,000,000 Equity 720,000,000 Ratio 0.67 Investment required ? 300,000,000 Let the investment raised through equity be 'x' Thus in order to maintain the current debt equity ratio, the company’s revised capital structure should be as follows (480 + x) / (720 + (300-x) = 0.67 Solving the equation, the value of 'x' is ? 121.5 million Revised Debt to Equity ratio Table 4 Debt ? 601,500,000 Equity ? 898,500,000 Ratio 0.67 Calculating Beta equity (Geared) of the project   Table 5       Beta (asset) = Beta (equity) x Equity/[Equity +Debt(1-tax rate)] Where    Beta (asset) of th e project is 1.9    Revised debt is 601.5 million    Revised equity is 898.5 million          Substituting all the values in the equation, Beta(equity) is 2.81 Calculating revised cost of equity      Table 6 Using the formula Ke = Rf + (Rm-Rf) * Beta