Yan Corp has equity beta of 0.7 and 8 million ordinary shares, at the current market price of RM5. The company also has debt with nominal value of RM100 per bond at 6% coupon rate, which will be redeemed in 5 years’ time at nominal rate. The bonds have a total nominal value of RM10 million. Interest on the bonds has just been paid and the current market value of each bond is RM106.30. Yan plans to acquire a business – HAM – in which it is different to its existing business operations. The equity beta of HAM is 1.1 and the company has an equity market value of RM48 million, while the market value of the debt is RM10 million. The risk-free rate of return is 5% per year and the average return on the stock market is 12% per year. Both companies pay corporation tax rate of 30% per year.
(a) Calculate the current weighted average cost of capital of Yan.
(b) Calculate a cost of equity which could be used in appraising the new project.