Q1 B 1

Q2 D 1
Q3 C 1
Q4 A 1
Q5 A 1
Q6 A 2
Q7 C 2
Q8 A 2
Q9 A 1
Q10 D 1
Q11 D 2
Q12 C 1
Q13 B 1
Q14 C 1
Q15 D 2
Q16 D 1
Q17 B 2
Q18 B 2

25
2.1
-Cost of equity for a company without debt refers to business risk only as the company is financed through
-However when the company is partly financed through debt ,shareholder's risk increase due to financial r
-The costs of equity of a company with debt will include business risk and financial risk.

2.2
-Traditional theory of capital structure assumes that an optimal capital structure exists.
-Optimal capital structure depends on the level of gearing.
-Company cannot maximise shareholders wealth unless the opitmal WACC is achieved.
-Optimal capital structure is a level at which WACC is at its lowest.
-Because debt capital has a lower after tax cost than equity capital ,moderately increasing debt capital will
- The moderate increase in debt doesn’t increase the overall risk of the firm and therefore the company do
-As debt capital is further increased,the WACC will continue to fall , up to a certain point.
-After the optimal level is reached, any further increase in debt capital will increase the risk of the firm and
-The additonal return required by sharholders will eventually outweigh the the benefits of debt capital,resu
ompany is financed through equity.
k increase due to financial risk.

y increasing debt capital will lower WACC.

d therefore the company doesn’t have to offer a higher return to shareholders to compensate for the increased risk.

ease the risk of the firm and the shareholders will demand a higher return.
benefits of debt capital,resulting in an increase in WACC
e increased risk.
1
Year Project A Project B
1 R 22,500 R 37,500
2 R 22,500 R 30,000
3 R 22,500 R 15,000
4 R 22,500 R 15,000
5 R 30,000 R 15,000
6 R 30,000 R 15,000
P.I. = Present value of future cashflows/Initial investment
PV (Future cash flows) R 110,280 R 100,556 4 2 Per project
Initial investment R 80,000 R 75,000
P.I. 1.38 1.34 2 1P
Conclusion: Select B as NPVI is high 1 1P

2 NPV takes TVM into account 1

It accounts for inflation and growth 1

3 Reliability of machinery prchased

Machinery Life span
Suppliers reliability
Enviromental aspects Are this factors relevant to the question?
Social aspects e.g Joblosses, labour relations etc
Other valid points 6
4.1 Limited to 20 Marks

Mark Mark Mark

Suggested solution
MV Weight Cost Weighted cost
Ordinary shares 7,502,564 1 17.15% 20.00% 3.43% 1P
Non-redeemable preference shares 9,500,000 1 21.72% 16.84% 1 3.66% 1P
Long term loan 26,731,443 1P 61.12% 10.08% 1 6.16% 1P
Total vlaue 43,734,007 100% 13.25% 1P

Tax rate

C1 Ordinary Shares
Market Value
D1 0.88 0.5
D2 1.06 0.5
D3 1.13 0.5
Value=D1/(Ke-g)
D1 1.13 1
Ke 20%
g 7% 1
Value in year 2 8.69 1

Cf 1 0.88
Cf 2 (1.06+8.69) 9.75 1P
Rate 20% 1
Value R 7.50 1P
Total market value R 7,502,564.10

C3 - Cost of Non redeemable prefs

Par value 10,000,000.00
Dividend 1,600,000.00 1
Market value 9,500,000.00 1
Cost @perp formula 16.84% 1

C4 - Cost of bonds OR
Before Tax After Tax
Cost 14% 10.08%
Coupon pre- and post tax 3,000,000 2,160,000
Par Value 30,000,000 30,000,000
Rate 14% 1 10.08% 1
Cf1 3,000,000 1 2,160,000 1
Cf2 3,000,000 2,160,000
Cf3 3,000,000 2,160,000
Cf4 3,000,000 2,160,000
Cf5 33,000,000 1 32,160,000 1
Value 25,880,302.84 1 26,731,442.96 1
OR
Before Tax After Tax
Rate 14% 1 10.08% 1
PMT 3,000,000 1 2,160,000 1
N 5 5
FV 30,000,000 1 30,000,000 1
PV (25,880,303) 1 (26,731,443) 1

4.2
-All capital projects of a company must achieve a return enough to pay off all the capital providers
-The discount rate used to evaluate capital projects should represents the needs of all capital providers
-WACC represents the average return required by all capital providers
-By achieving a minimum return equivalent to WACC in all capital projects, a company will thus satify the demands of all the capital providers
-However WACC stilll needs to be adjusted for risk before evaluating each individual project
 Year 1 Year 2 Year 3 Year 4 Year 5
Demand (units) 45,000 45,000 45,000 45,000 45,000 1
Selling price 25 0.5
Materials 10 0.5
Labour 5 0.5
Variable overheads 2 0.5
Contribution/unit 8 8.48 8.99 9.53 10.10 2 1 for giving correct amount
Contribution 360,000 381,600 404,496 428,766 454,492 1 P

Fixed Costs 108,000 114,480 121,349 128,630 136,348 1

Salary: new factory worker 38,400 40,704 43,146 45,735 48,479 2

Total Gross income 213,600 226,416 240,001 254,401 269,665 1 P

Tax @ 28% 63,168 66,756 70,560 74,592 78,866 1

Total Gross income 213,600 226,416 240,001 254,401 269,665 1 P
Sec 12C -12,000 -12,000 -12,000 -12,000 -12,000 2
Taxable income 225,600 238,416 252,001 266,401 281,665 1 P

Net Cash flow 150,432 159,660 169,441 179,809 190,799 1 P

Cash flows
Machinery costs -60000 1
Net Proceeds from sale of machinery 2160 2
Feasibility costs 0
Net Cash flows 150,432 159,660 169,441 179,809 190,799 1 P
Working capital -24000 -12,000 -6,000 0 -6,000 2
66,432 147,660 163,441 179,809 186,959
1 P
Discount rate 10% 1
NPV R 7,395.84 1
 25

Reliability of machinery prchased

Machinery Life span
Suppliers reliability
Enviromental aspects
Social aspects e.g Joblosses, labour relations
etc