Question

You are VP (Finance) of Gamma Limited. You have been approached by the CFO of Gamma Limited to assess the existing capital structure of Gamma Limited and recommend optimal capital structure that maximizes market value of the firm (or minimizes weighted average cost of capital). The current debt-equity ratio of Gamma Limited is 4:5. The current interest rate on debt is 11.75% p.a. The current equity beta of Gamma Limited is 1.25. During the accounting year 2020-21, Gamma Limited earned profit before interest and tax (PBIT) of Rs. 400 crores. The company is in no-growth phase and has negligible reinvestment requirements for working capital and CAPEX. The corporate tax rate applicable to Gamma Limited is 30%. The risk-free rate of interest is 6% per annum and expected market risk premium is 10% per annum. The interest rates applicable to Gamma Limited at different levels of debt ratio are given in table below: Debt Ratio Interest Rate on Debt 0% 10% 10% 10.5% 25% 11% 50% 12% 75% 13%​

Answer 1

1. Income Method GNPFC = Compensation of employees + Rent + Interest + Undistributed Profits + Dividend + Net

Factor Income from Abroad + Consumption of fixed capital = 1850 + (400 +500 +900 + 200) + (-) 50+ 100 = 3900

CRORE Note: o GNPFC = NNPFC + Consumption of fixed capital o NNPFC = Compensation of employees + Rent +

Interest + Undistributed Profits + Dividend + Net Factor Income from Abroad o Compensation of employees is

income from work which includes wages and salaries in kind and cash, and contribution to social securities