- Related Questions & Answers
- Calculate value of company with following data:\nEarnings before interest tax (EBIT) = Rs.50000/-\nBonds (Debt) = Rs.250000/-\nCost of debt = 12%\nCost of equity = 16%
- What is earnings before interest and tax (EBIT)?
- Using below data, calculate depreciation using sinking fund method.\nInitial cost of an equipment is Rs. 5000000/- , life span of equipment is 15 years,\nSalvage value = Rs. 250000/-, interest rate = 10%
- How to calculate cost of capital with tax rate?
- Explain Earnings before interest and tax (EBIT) – Earnings per share (EPS) approach in capital structure.
- If a company’s profit before tax is Rs.500000/- and tax rate is 28%, preference share dividend is Rs.8000/-
- How to calculate cost of equity and market value of a firm?
- Calculates following data:\na) An investor invested Rs.5000/- for 4 years with interest rate 12% per year. Calculate Future value (using generalised formula).
- Calculate weighted average cost of capital of a ABC ltd with the following data.
- Calculate weight average cost of capital of a company XYZ using below assumption data.
- How cost of equity in different countries are calculated?
- Define concept of Debt securitisation in financial management.
- A trader recorded below transactions:\na) Started business with cash Rs. 30000\nb) Purchased securities (in cash) in Rs. 9000\nc) Purchased shop for Rs. 30000 (10000 in cash, remaining from loan)\nd) Sold securities for Rs. 1300 (purchased cost = Rs. 900)\ne) Purchased a vehicle (cash) for Rs. 2500\nf) Salary received (in cash) Rs. 5000\ng) Paid Rs.800 for loan and Rs. 400 for interest\nh) Expenses (in cash) paid Rs. 400\ni) Received dividends (in cash) for dividends Rs. 300\nPrepare a table using accounting equation
- How to calculate market value of a company?
- Amortized Cost of Meld Operation
- Explain about Earnings before interest taxes depreciation and amortization (EBITDA).

- Selected Reading
- UPSC IAS Exams Notes
- Developer's Best Practices
- Questions and Answers
- Effective Resume Writing
- HR Interview Questions
- Computer Glossary
- Who is Who

The solution is given below −

Interest cost = 12% (250000) = 30000/- Earnings = EBIT – Interest cost = 50000 – 30000 = 20000/- (no tax rate) Shareholders earnings = earnings Shareholders earnings = 20000/- Market value (equity) E = shareholder’s earnings/ cost of equity Market value (equity) E = 20000/16%= 125000 Market value (Debt) D = 250000/- Market value (total) = E + D Market value (total) = 125000 + 250000= 375000/- Cost of capital = EBIT/ market value (total) Cost of capital = 50000/ 37500 = 13.33% Degree of financial leverage = market value (debt)/ market value (total) Degree of financial leverage = 250000/ 375000= 66.67%

Now, if debt increases from 250000 to 300000

Interest cost = 12% (250000) = 30000/-

Earnings = EBIT – Interest cost = 50000 – 30000 = 20000/- (no tax rate)

Shareholders earnings = 20000/-

Market value (equity) E = 125000

Market value (Debt) D = 300000/-

Market value (total) = E + D = 125000 + 300000 = 425000/-

Cost of capital = EBIT/ market value (total) = 50000/ 425000 = 11.76%

Degree of financial leverage = market value (debt)/ market value (total) = 250000/ 425000 = 58.82%

From above two cases, we can conclude that if there is an increase in debt, there will be an increase in value of firm and decrease in cost of capital.

Advertisements