Essay On Capital Structure & WACC Of Mantra Group Limited." (70 Characters)

WACC

Mantra Group Limited is an Australian company which has its operations in housing operative and started its activities into 2005. The company has diversified and expanded its business on a huge level. Since the MTR’s progress, the company has able to produce and administer its own portfolio with the help of many acquisitions with many other companies and presently 127 land and properties are having by company across Indonesia, Australia and New Zealand.

This report has been equipped with a purpose to investigate the capital structure, debt and equity cost, weighted average cost of capital of company. Numerous factors have been observed through investigating over the annual report of the company.

1 - WACC

WACC stands for weighted average cost of capital. WACC is measured by analyzing the debt and equity and their cost by analyzing the annual report of the company and other financial factors of the company. Average cost of debt and equity is considered to calculate the weighted average cost of capital. The weighted of total firm value is considered to analyze the debt and firm’s capital.

The WACC of organization is measured by investigating the capital structure of organization.  Companies are of 2 types: leveraged and unleveraged. Leveraged companies are those which raises the funds through debt and equity both whereas unleveraged company is those which raises the funds through equity only (Weygandt, Kimmel & Kieso, 2015). So it becomes essential for the company to analyze the WACC to make better decisions for investment. Through examining annual report of company, mantra group limited, WACC of organization has been calculated 6.6569 % and 4.095 % by analyzing 2 methods of cost of equity model:

1. CAPM ( Capital Asset Pricing Model)
2. Dividend Growth model

The less % of WACC shows that lower opportunity cost have to be chose as in this case, risk chances get decreased. Thus the WACC of the company has been measured and for cost of capital 2 methods (DGM and CAPM has been analyzed).

Calculation of WACC:

 WACC=         D  ( R_D ) ( 1 – TAX ) +     E   ( R_E  )

                     D+E                                 D+E

           =         .2127 X 5.312 X ( 1- 0.30 )  +  .7873 X 7.451

           =      .7909 + 5.866

           =       6.6569%

                        (Annual Report, 2017)

                  OR  IF R_E   4.197

          =       .2127 X 5.312 X ( 1- 0.30 )  +  .7873 X 4.197

          =      .791 + 3.304

          =       4.095%

 WACC  = ((E/V) * R_e) + [((D/V) * R_d)*(1-T)]

Calculation of WACC

Where D = Value of Firms Debt

E = Value of Firms Equity

V= Value of Debt + Equity

WACC is a process to estimate the rate of return (average) which is considered by company to compensate the investors. Mantra group Limited (MTR) has been investigated and it has been found that the WACC of company is 4.095% and 6.6569 %. These 2 rates are based upon 2 different methods of cost of equity. These calculations depict about the total return get by investors. These calculations show that investors would get 4.09% or 6.56% of total investment as return if the amount would be invested by them in MTR. Thus it has been analyzed that this company raises its fund through equity more than the debt. It suggests that company could even raise more funds to diversify the market or invest into new project.

Weighted Average Cost Of Capital Calculation

Variables		F/Y 2016 values ($ millions)
Market value of debt	D	125.1
Market value of equity	E	463.07
Market value of mtr	V= {D+E}	{125.1+463.07}         = 588.17
Cost of debt	RD	5.312%
Cost of equity	RE	M1= 7.451% M2=4.197%
Tax rate	TAX	30%
Weight of debt	D         D+E	125.1         125.1 + 463.07 = 21.27%
Weight of equity	E        D+E	463.07    125.1 + 463.07 = 78.73%
WACC		D/(D+E) * RD* (1-TAX) + E/(D+E) * RE

(Morning Star, 2017)

Cost Of Debt Calculation –       ($ Million)

Interest expense for year F/Y 2016 =      $ 6.645

Tax rate                                     =  30%

Tax shield on interest expense  =      $6.645*(30%)

                                                  =      $1.9935

After tax interest expense          =      $4.6515

Before tax interest expense        =      $ 6.645

Cost of debt before tax              =       

{ Interest Expense Before Tax/Total Debt} * 100

                                                     =        {$6.645/$125.1}*100

                                                     =         5.312%

Cost Of Equity Calculation By 2 Methods-   ($ Millions)

• Dividend Growth Model = R_E  =

       D₁ / P₀ + G

 AS ON 30/06/2016

 D₁ = Dividend Of Next Financial Year

P₀ = Current Share Price Of MTR

G = Growth Rate = 5%

        D₁ = D₀ (1+G)

       $24.67(1+5%)

       $ 25.9035

      P₀ = $3.500

R_E  = D₁ / P₀ + G = $ 25.9035/ $3.500 + .05

                           =   7.451%

Method 2

• Capital Asset Pricing Model (CAPM)

 R_E = R_F + BETA{ E (R_M ) – R_F }

Here

R_F = Risk Free Rate Of Return

BETA = 0.99 

E( R_M ) = Expected Return On Market Portfolio

            = 4.2247%

        R_F = 1.5% ( Reserv3e Bank Of Australia Rate)       

         R_E  = 1.5 % + 0.99 { 4.2247 %– 1.5 % }

Weighted Average Cost Of Capital Calculation

               = 4.197%

2- Gearing ratios

Gearing ratio is a financial ratio which is measured by considering the debt, equity and share of a company. This ratio is calculated to investigate the financial stability of a company. Gearing ratio principles depict that gearing ratio must be lower as the less the % of gearing ratio would be the more the company would be stable financially. Higher % of gearing ratio make the leverage of the company higher and thus the financial stability of the company reduce. The gearing ratio of Mantra group Limited has been measured and found the gearing ratio. The gearing ratio of MTR is 27.015% that is quite low. So it could be said that company is financially stable (Gapensci, 2008).

This ratio is calculated by comparing the owner’s total equity with the borrowed funds of the company. Gearing ratio is the best way to measure the economic and financially stability of a company. With high % of gearing ratio, the debt amount of the company raises and thus the company has to face the financial risk. Thus it could be said that it distress the investor of the company from getting a higher return.

The analysis over MTR depict that the gearing ratio of MTR is is 27.015%. This ratio of MTR is quite low so the financial risk faced by the company is also low. And thus the investors would be able to get higher return (Hillier, Grinblatt and Titman, 2011).

Through analyzing the annual report of the company, it has also been found that the debt amount of company has been enhanced from last year. But it didn’t impact much on gearing ratio of MTR because the enhanced amount is not quite higher.

The MTR’s gearing ratio attracts investors more to make their funds invested in the company. Financial risk is lesser so investors find it best company to invest.

 Calculation of gearing ratio of mantra group:

 Gearing Ratio = 

( Short Term Debt + Long Term Debt)  X 100

                  Shareholdrs  Equity

Gearing Ratio      =                     ( $ Millions)

                                                     $ ( 0 + 125.10)    X 100

                                                      $ 463.07                                                                        

                                  =                  $125.1  X 100

                                                      $ 463.07

  Gearing Ratio   =             27.015 % 

Capital structure decisions are taken by the financial manager of a company. All the decisions related to financial condition of the company is taken by the financial manager. So he must be able to understand the aspects of finance and must consider every point while making the decisions (Frank and Goyal, 2003). Manager must be very careful while taking decisions. Manager must consider every aspect as his decision making could impact every activity of the firm. So that the best decision making could be done.

Cost Of Debt Calculation

Capital structure is a combination of debt and equity of a company. Best capital structure is the one where debt and equity are combined in a good proportion so that the return of  the company and investors could b higher. Mostly, the decision of capital structure is done according to the market and industry’s ideal ratio.

Capital structure of MTR has been analyzed and it ahs been found that the capital structure of the company has been enhanced from last year with a good share. The weight of debt finance of the company is 21.27% and weight of equity finance of the company is 78.73% (Strebulaev, 2007). WACC of company is 6.6569 and 4.095. Cost of debt (Kd) is 5.312% and cost of equity (Ke) is 7.451 % according to 2 different model of equity i.e. CAPM and dividend growth model.

By investigating over the annual report and financial data of MTR, it has been analyzed that net profit of company has been enhanced from $ 36.158 million to $ 37.149 million from 2015 to 2016. Still, it has been found that the EPS of the company has slightly decreased 14.24 to 13.7. this happened due to high capital expenditure of MTR.

 This analysis shows that capital structure of MTR is quite attractive and no financial risk is faced by company.

All the above analysis is quite essential for making decisions for future investment in MTR. WACC has been analyzed and it depict that the WACC cost of the company is quite low that means company could raise more funds in less investment.

Capital structure of MTR has been analyzed and found that it relies more upon equity than debt as around 78.73% of obligation of MTR is fulfilled through equity and rest obligation is fulfilled by debt of company. It has also been analyzed that the cost of debt (Kd) is lesser i.e. 5.312 % in contrast to (Ke) i.e. 7.451% (Parrino, Kidwell and Bates, 2011).

The study and investigation over current capital structure of MTR economically along with the measurements of WACC which is 6.6569% and 4.095%. So it is recommended that the financial stability is good of MTR and financial risk is also less of company. So investors find it a good option. So it could be said that the capital structure of MTR is quiet attractive and company is enough capable to make investment in new projects due to less cost of debt and equity.  Two views are there to say that the company is quite stable financially with quite low financial risk.

References:

Frank, M. Z., & Goyal, V. K. (2003). Testing the pecking order theory of capital structure. Journal of financial economics, 67(2), 217-248.
Strebulaev, I. A. (2007). Do tests of capital structure theory mean what they say?. The Journal of Finance, 62(4), 1747-1787.
Parrino, R., Kidwell, D.S. and Bates, T. (2011). Fundamentals of corporate finance. John Wiley & Sons.
Weygandt, J. J., Kimmel, P. D., & Kieso, D. E. (2015). Financial & Managerial Accounting. John Wiley & Sons.
Hillier, D., Grinblatt, M. and Titman, S., (2011). Financial markets and corporate strategy. McGraw Hill.
Gapenski, L.C., (2008). Healthcare finance: an introduction to accounting and financial management. Health Administration Press.
Annual Report. (2017). Mantra Group ltd. Retrieved on 28 March, 2017 from https://ir.mantragroup.com.au/Investor-Centre/?page=Results
Morning star. (2017). Mantra Group ltd. Retrieved on 28 March, 2017 from https://financials.morningstar.com/balance-sheet/bs.html?t=MTR&region=aus