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AMH Co (June 13 Amended)

AMH Co wishes to calculate its current cost of capital for use as a discount rate in investment appraisal. The following financial information relates to AMH Co:

Financial position statement extracts as at 31 December 20X2

 $000$000 Equity Ordinary shares (nominal value 50 cents) 4,000 Reserves 18,000 22,000 Long-term liabilities 4% Preference shares (nominal value $1) 3,000 7% Bonds redeemable after six years 3,000 Long-term bank loan 1,000 7,000 29,000 The ordinary shares of AMH Co have an ex div market value of$4.70 per share and an ordinary dividend of 36.3 cents per share has just been paid. Historic dividend payments have been as follows:

 Year 20X8 20X9 20Y0 20Y1 Dividends per share (cents) 30.9 32.2 33.6 35.0

The preference shares of AMH Co are not redeemable and have an ex div market value of 40 cents per share.

The 7% bonds are redeemable at a 5% premium to their nominal value of $100 per bond and have an ex interest market value of$104.50 per bond.

The bank loan has a variable interest rate that has averaged 4% per year in recent years. AMH Co pays profit tax at an annual rate of 30% per year.

Required:

A. Calculate the market value weighted average cost of capital of AMH Co.
B. Discuss how the capital asset pricing model can be used to calculate a projectspecific cost of equity for AMH Co, referring in your discussion to the key concepts of systematic risk, business risk and financial risk.