Calculations: Bonds Outstanding, Price per Preference Share (Essay Sample)

Question 1
Item

Value

Item

Value

bonds outstanding

$3,220,000,000

price per preference share

$97.77

bond years

10

Bank loan

$555,000,000

bonds trading at

$102.50

interest rate pa

4%

par value

$100

tax rate

30%

ordinary shares

696,000,000

risk premium

6%

price per share

$15.34

Risk free rate

2.52%

preference shares

5,000,000

beta

0.61

par value of preference shares

$100

 

 

* Calculation of the trading value per bond
The bonds are trading at 102.5% of the par value
That is 102.5%×$100 = $102.50 per bond
* Identification of the beta of New Crest Mining Limited
From YahooFinance = 0.61
* Identification of risk free rate from the 10 year bond rates
Monthly bond rate = 2.52
* Calculating CAPM
ra=rf+βa(rm-rf)
Where rf= Risk free rate
βa = Beta of the security
rm = Expected Market return
rm-rf = premium rate
Risk free rate = 2.52%
Risk premium = 6%
Beta = 0.61
Substituting the values
ra=2.52%+0.61(6%) = 2.52% + 3.66% = 6.18%
CAPM = 6.18%
* Calculating the cost of capital
The formula for calculating the cost of capital is the combined cost of debt and equity that has been acquired by a company so that it can fund its operations. The cost of capital takes into account the cost of debt, common stock and preferred stock. The formula for the calculation of the cost of capital involves many different calculations of the three different components
The cost of debt is calculated as:
Interest Expense×(1-Tax Rate)Amount of Debt Outstanding
The interest expense is calculated as debt multiplied by debt rate
$555,000,000 ×4% = $22200000
Additional interest expense is the carrying value of bonds multiplied by half of the annual yield to maturity = $3,220,000,000 × 102.50/2 = $1650250000
The amount of debt outstanding is
Substitution of the values gives
($22200000+$1650250000) ×(1-30%)555,000,000+3220000000
27091750003775000000
= 0.72%
The cost of preferred stock is calculated as:
Interest ExpenseAmount of preferred stock
Preferred shares = 5000000×$97.77 = $488850000
2709175000488850000
= 5.54%
The cost of common stock involve the risk free return, the average rate of return expected and a differential risk return.
Risk Free Return+(Beta×Average Stock Return-Risk Free Return)
Average Stock Return – Risk Free Return = Market Premium Risk
2.51% + (0.61 × (6%))
=6.18%
The common stock funding = ordinary shares multiplied by the price per share
= 696,000,000 × $15.34 = $10,676,640,000
All the three calculations have to then be added together and their weighted average calculated to get the blended cost of capital for the company. The cost of each item is multiplied by the amount of outstanding funding that is associated with it.
Total Debt Funding

× Percentage Cost

= Dollar Cost of Debt

Total Preferred Stock Funding

× Percentage Cost

= Dollar Cost of Preferred Stock

Total Common Funding

× Percentage Cost

= Dollar Cost of Common Stock



= Total Cost of Capital

Funding Type

Funding Amount

% Cost

Dollar Cost

Debt

$3775000000

× 0.72%

= $27,180,000.00

Preferred Stock

$488850000

× 5.54%

= $591,485,856.00

Common Stock

$10,676,640,000

× 6.18%

= $30,210,930.00

Totals

$14,940,490,000

×12.44%

= $648,876,786.00

From the table, the cost of capital of the company is $648,876,786.00.
Question 2
* Disadvantages of total distribution model in valuing shares
Valuing shares by use of the distribution model can lead to misleading results since the amount of profit that has been accrued by the company would be too little and not appear significant. This can have a great influence on the investors and the choices they would make concerning the business.
* Calculating theoretical share value as at 31st Dec. 2015.
Free Cash Flow to the Firm (FCFF) is calculated as
EBIT (1-tax rate) + non-cash charges (income) – capital expenditures – working capital
Using the Discounted Cash Flow model for a non-constant growth is given by the formula
Assuming that the free cash flow is expected to grow indefinitely at a constant rate, the formula becomesValue of firm=FCFF1rf-g
The rf is the cost of capital to the firm, r is the appropriate cost of capital, t is the time period, and g is the estimated growth rate.
Assuming that the cash flow is expected to grow at a rate of g1 for time t1 and to g2 later on, the formula used is
rc is the weighted average of the cost of capital.
The cash flow from operations is $837,000,000
Capital expenditures $541,000
Net income $546, 000
The capital value $648,876,786.00
EBIT $1,066,000,000
Since it is assumed that there are no non-cash charges, we substitute the values as
The Free Cash Flow to the firm (FCFF) = $1,066,000,000-$541,000-$648,876,786.00
Free Cash Flow is equal to $416,582,214
Estimated growth rate is calculated by subtracting the current EBIT from expected EBIT then divided by the current EBIT and multiplied by 100%
That is ($2000m-$1066m)/$1066m×100% = $934m/$1066m×100% = 87%
This is then divided by 5 to get the estimated growth rate per year = 87%/5 = 17.4%
The rate in cash would then be 17.4% multiplied by the current value= 17.4% ×$1066m = $185.484m
The current value of firm is calculated as
Value to the firm=(1-rc)t1FCFF0(1-g)t(1+rc)t1+[FCFF0(1+g1)t1/(rc-g2)(1-rc)t1]
Since the values are expected to remain constant, the values will be,
Value of firm=$416,582,214$648,876,786.00-$185484000
The Current value of the firm is = $ 0.90
* Multiplier method of valuation
EPS = $0.81
Price per share/market value per share = $15.34
Earnings Multiplier = Market value per share/Earnings Per Share (EPS)
= $15.34/$0.81
= $18.94
This is much more than the $0.90 calculated in (b).
The difference is because of the fact that the earnings multiplier does not take into account the details of the company and the interests and other expenses, which are closely monitored by the discounted cash flow model.
* Recommendations for buying shares in Newpeak
As reflect...