The equity beta of Fence Co is 0·9 and the company has issued 10 million ordinary shares. The market value of each ordinary share is $7·50. The company is also financed by 7% bonds with a nominal value of $100 per bond, which will be redeemed in seven years’ time at nominal value. The bonds have a total nominal value of $14 million. Interest on the bonds has just been paid and the current market value of each bond is $107·14.

Fence Co plans to invest in a project which is different to its existing business operations and has identified a company in the same business area as the project, Hex Co. The equity beta of Hex Co is 1·2 and the company has an equity market value of $54 million. The market value of the debt of Hex Co is $12 million.

The risk-free rate of return is 4% per year and the average return on the stock market is 11% per year. Both companies pay corporation tax at a rate of 20% per year.

Required:
(b) Calculate a cost of equity which could be used in appraising the new project. (4 marks)