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CA Intermediate · Financial Management and Strategic Management · Cost of Capital

Meridian Textiles Ltd has issued 10% irredeemable preference shares of face value ₹100 each at par. Flotation cost is 4% of the issue price. Ignoring dividend tax, what is the cost of preference capital (to the nearest 0.01%)?

The cost of irredeemable preference capital is 10.42%. Annual dividend is ₹10 on a face value of ₹100, and net proceeds after 4% flotation cost are ₹96. Dividing ₹10 by ₹96 gives 10.42%, which is higher than the stated 10% coupon.

  1. A10.00%
  2. B10.42%Correct
  3. C9.60%
  4. D14.00%

Explanation

Dividend per share = 10% of 100 = ₹10. Net proceeds = 100 - 4 = ₹96. Cost = 10/96 = 10.42%. Using 10% ignores flotation cost; 9.60% wrongly applies the flotation cost to the dividend rate (10 x 0.96).

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