Two firms, A Ltd., and B Ltd., operate in the same industry. The two firms are similar in all aspects except

for their capital structures. The following additional information is available:

1.

A Ltd., is financed using Sh.100 million worth of ordinary shares.

2.

B Ltd., is financed using Sh.50 million in ordinary shares and Sh.50 million in 7%

debentures.

3.

The annual earnings before interest and tax are Sh.10 million for both firms. These

earnings are expected to remain constant indefinitely.

4.

The cost of equity in A Ltd., is 10%.

5.

The corporate tax rate is 30%.

Required:

Using the Modigliani and Miller (MM) model, determine the following:

a)market value of A Ltd and B Ltd

b)the weighted average cost of capital of A Ltd and B Ltd