CA Intermediate · Financial Management and Strategic Management · Cost of Capital
Nirmal Textiles Ltd has 9% preference shares of face value ₹100, issued at par, redeemable at par after 10 years. Flotation cost is ignored. The company's tax rate is 25%. What is the cost of preference capital (ignoring dividend distribution tax and using the simple approach)?
The cost of preference capital is 9%. Shares are issued and redeemed at par with no flotation cost, so cost equals the dividend rate. Preference dividend is paid out of after-tax profit and gives no tax shield, so no adjustment for the 25% tax rate is made.
- A6.75%
- B9%Correct
- C12%
- D11.25%
Explanation
Issued at par and redeemed at par with no flotation cost, so the cost equals the dividend rate: 9/100 = 9%. Preference dividend is not tax deductible, so the tax adjustment giving 6.75% is wrong.
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