Riphean plc and Silurian plc are two businesses operating in different industries from one

another. They are both financed by a mixture of ordinary share and loan capital and both are

seeking to derive the cost of capital for investment decision making purposes. The following

information is available concerning the two businesses for the year to 30 November Year 8:

Riphean plc Silurian plc

Profit for the year £3.0m £4.0m

Gross dividends £1 .5m £2.0m

Market value per ordinary share £4.00 £1 .60

Number of ordinary shares 5m 1 0m

Gross interest yield on loan capital 8% 1 2%

Market value of loan capital £1 0m £1 6m

The annual growth rate in dividends is 5 per cent for Riphean plc and 8 per cent for Silurian plc.

Assume a 30 per cent tax rate.

Required:

(a) Calculate the weighted average cost of capital of Riphean plc and Silurian plc using the

information provided.

(b) Discuss two possible reasons why the cost of ordinary share capital differs between the two

businesses.

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