Page 387 - Microsoft Word - 00 CIMA F1 Prelims STUDENT 2018.docx

Answers

Solution

Step 1

First, the existing geared / equity beta of XYZ is degeared,

2
V E
ß = ß [ V E + V D [1 – t] ] =1.25 [ 2 + 1[1 – 0.30] ] =0.926
eu
eg
Step 2

Input this ungeared beta into the CAPM formula to give an ungeared cost of
equity (k eu)

k eu= 6% + [14% – 6%] × 0.926 = 13.4%

Step 3

Use the M & M WACC formula

k adj = k eu (1 – tL)

= 13.4% (1 – 30% × (1/4)) = 12.4%.

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