The CFO of KKK Limited started restructuring of company's capital structure. He is concerned with what the company has to pay for the capital it has mobilized through various sources of finance. The cost of capital has t

CS Executive · Corporate Accounting and Financial Management · PYQS · June 2026
The CFO of KKK Limited started restructuring of company's capital structure. He is concerned with what the company has to pay for the capital it has mobilized through various sources of finance. The cost of capital has to be specially considered because cost of capital has direct effect on profit earning capacity of the company. Therefore, it is necessary for the CFO to take into consideration the cost of capital which should not be burdensome for the company and should try to develop an optimum capital structure so that the cost of capital can be minimized. The CFO is considering the restructuring plan and possibility of raising ₹50,00,000 by issuing equity shares, preference shares and debentures. The details are as follows: 2,00,000 Equity Shares of ₹10 each - ₹20,00,000 1,00,000 10% Debenture of ₹10 each - ₹10,00,000 1,00,000 11% Preference Shares of ₹10 each - ₹10,00,000 Retained Earnings - ₹10,00,000 Total - ₹50,00,000 Market Price of: Equity shares is ₹18, Preference shares is ₹12, and Debenture is ₹12. Earnings per share of the company are ₹2. The corporate tax rate is 50%. You are the Company Secretary of the Company, help the CFO in determining weighted average cost of capital (using weights based on market values.)

Answer & Explanation:

Answer 6(a) (i) Calculation of Market value Market value of Equity shares = 2,00,000 x ₹18 = ₹36,00,000 Market value of Preference shares = 1,00,000 x ₹12 = ₹12,00,000 Market value of Debenture = 1,00,000 x ₹12 = ₹12,00,000 Total = ₹60,00,000 (ii) Calculation of specific costs: Cost of Equity Shares: ke = (EPS / MP) * 100 = (2 / 18) * 100 = 11.11% Cost of Preference Shares: kp = (DPS / NP) * 100 = (1.1 / 10) * 100 = 11% Cost of Debenture: kd (after tax) = (I / NP) * 100 (1-t) = (1 / 10) * 100 (1-0.50) = 5% (iii) Weighted Average Cost of Capital (Based on Market Value Weights) Sources Market Value (₹) Weights Cost Specific Cost Weight Equity Shares capital 36,00,000 0.60 11.11% 6.67% Preference Shares capital 12,00,000 0.20 11.00% 2.20% Debenture 12,00,000 0.20 5.00% 1.00% Weighted Average Cost of Capital 9.87% Alternative Answer (Considering Retained Earnings in Market Value) (i) Calculation of Market value Market value of Equity shares = 2,00,000 x ₹18 = ₹36,00,000 Market value of Preference shares = 1,00,000 x ₹12 = ₹12,00,000 Market value of Debenture = 1,00,000 x ₹12 = ₹12,00,000 Market Value of Retained Earnings = 10,00,000 x 18/10 = ₹18,00,000 Total = ₹78,00,000 (ii) Calculation of specific costs: Cost of Equity Shares: ke = (EPS / MP) * 100 = (2 / 18) * 100 = 11.11% Cost of Preference Shares: kp = (DPS / NP) * 100 = (1.1 / 10) * 100 = 11% Cost of Debenture: kd (after tax) = (I / NP) * 100 (1-t) = (1 / 10) * 100 (1-0.50) = 5% Cost of Retained Earnings = DPS (1-Ti) (1-B)/MP (1-Tc) * 100 = 2/18 * 100 = 11.11% (Considering 100% payout, since no information is given for payout i.e. EPS=DPS) (iii) Weighted Average Cost of Capital (Based on Market Value Weights) Sources Market Value (₹) Weights Cost Specific Cost Weight Equity Shares capital 36,00,000 0.462 11.11% 5.13% Preference Shares capital 12,00,000 0.154 11.00% 1.69% Debenture 12,00,000 0.154 5.00% 0.77% Retained Earnings 18,00,000 0.230 11.11% 2.56% Weighted Average Cost of Capital 10.15%

Topics: Financial Management

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