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Coporate finace - Essay Example

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The technique stipulates that the cost of equity is the function of the prevailing market price and the anticipated dividends of the firm/company1. The rate at which the firm’s future anticipated dividends and the…
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Download file to see previous pages Macquarie group limited 2014 financial report, the share price as at 30 December 2014 was $57.93. The company’s last ten years average total dividends, the return on equity and the payout ratios were $3.76, 11.1% and 66.8%.
Dividend in the next period = dividend in the current period * (1+ the growth rate) = $3.76* (1+3.69%) = $3.89. now the three fundamental inputs are available and we can now punch into the equation below to get the return on equity:
It is assumed that all investor do aim at maximizing the economic utilities and the asset quantities are fixed. The investors are risk- averse and rational. The investors are price takers and there is no way they can influence market prices. The investors have the same expectations that are related to the market.
From the finance point of view, the cost of debt is calculated by using the following formula Kd= where I is the annual interest while P is the current market value of a debenture. The Macquarie group limited had an annual interest of $359m4. However, the market price of the debenture was $3507m. The cost of debt can, therefore, be computed by punching in the above inputs into the formula (359/3507) = 0.1023 hence 10.24%.
This is where Re= cost of equity, Rd= cost of debt, E= the market value of the company’s equity, D= the market value of the firms debt, V= total value of debt and equity (E+D). Percentage of financing equity = E/V while the percentage of finance by debt = D/V and Tc = corporate tax rate6.
The corporate tax for the company is 30%. From Modigliani miller irrelevant theory, the tax deductibility increases the value of the firm. This is by increasing the cash flows to respective equity shareholders. The tax deductibility of the debt down scales the weighted average cost of capital hence increasing the value of the firm.
The cost of equity, Re, is higher than the cost of debt, Rd, but the saving in the cost of debt Rd is more hence making up for it ...Download file to see next pagesRead More
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