Module 11 Capital Structure

Question 1

Cost of Equity

Answer 1

• Cost of Equity is the same as shareholders required rate of return

Question 2

Ex-Dividend Price

Answer 2

Ex-Dividend Price = Cum-Dividend Price - Dividend about to be paid

Question 3

Ex-dividend date

Answer 3

The date from which anyone buying a share is not entitled to the recently
announced dividend

Question 4

Announcement date

Answer 4

The date on which a company announces to its shareholders the upcoming
dividend.

Question 5

Record date

Answer 5

When the payment is made it will be to all of the shareholders who are on the
company register on the record date

Question 6

Payment date

Answer 6

The date on which the dividend is paid.

Question 7

Why cost of debt lower than cost of equity?

Answer 7

• Cost of raising debt finance is lower
• Annual return required to attract investors in the form of debt is lower
  
  • investing in a firm via debt is less risky (debt usually secured)
  • intrest is paid before dividend
  • event of liquidation debt providers paid back in full first
• Cost of intrest is tax-deductable

Question 8

Cost of Irredemable debt

Answer 8

• t = tax rate
• MV = ex-intrest market value of the debt
• I = intrest payable

Question 9

MV ex-interest

Answer 9

MV ex-intrest = MV cum-intrest - Intrest

Question 10

Weighted Average Cost of Capital

Answer 10

WACC = %d kd + %e ke

• %d - proportion of debt capital to total capital
• %e - proportion of equity capital to total capital
• kd - cost of debt
• ce - cost of equity

Question 11

WACC using nomianl values

Answer 11

WACC = %d kd + %share capital ke + %retained earnings ke

Question 12

Modigliani-Miller (MM) theory without tax assumptions

Answer 12

• Capital markets are perfect
• No taxation
• No transaction costs
• Individuals can borrow at the same rate as firm
• Home-made gearing has the same risk as corporate gearing