Cost of Debt

[frankmudiaga]

A company has an issue 12% redeemable debt with 5 years to redemption. Redemption is at par. The currnt market vakue (MV) of the debt is $107.59. The corporation rate is 30%.

Quest?

What is the cost of debt?

Please someone help with the question.:wacko:

[Tia]

Hi

This is a very direct question which involves application of formula. if you refer to Section D of GTG's F9 Study Text, you will definintely find out this answer.

Pritika

[alishaACCA]

hi,
send me a PM ill explain to u through mail
alishaACCA

[Admin]

hi,
send me a PM ill explain to u through mail
alishaACCA


Please share your wisdom on the forums so all members can benefit. That is the purpose of this forum, Thanks

[Acid]

Hi Alisha,

If you share your thoughts here then we could also perhaps help If you are stuck somewhere , and the forum is more convenient for the purpose of discussing study queries.

Cheers

[alishaACCA]

hi,
sry i was busy when writing this post,
ill reply shortly. plz wait for my next post
Cheers
alishaACCA

[siddharth]

Hi,

the formula to find the cost of redeemable debt is

K = (Interest * (100 - Tax Rate) + (Redeemable value of debt - Net Proceeds)/N)/(Redeemable value of debt + Net Proceeds)/2

Net Proceeds - Money raised through issue - Cost involved in issue of debenture

So for your question

K = (12*(100 - 30 )+(100-100)/5)/(100+100)/2)

K = (12*70)+0)/100

K = 8.4 %

[ahyee1021]

my answer is different.

k=12(1-t)
=12(1-0.3)
=$8.4

8.4 8.4 8.4 8.4 8.4 100
------------------------------
0 1 2 3 4 5

using IRR way
try Kd(1-T)= 6%
NPV=8.4(4.212)+100(0.747)-107.59=2.4908

try Kd(1-T)=8%
NPV=8.4(3.993)+100(0.681)-107.59=-5.9488

Kd(1-T)= 6%+(2)2.4908/(2.4908+5.9488)
=6.59%

[Pedzisai]

A company has an issue 12% redeemable debt with 5 years to redemption. Redemption is at par. The currnt market vakue (MV) of the debt is $107.59. The corporation rate is 30%.

Quest?

What is the cost of debt?

Please someone help with the question.:wacko:

Do the following, Using the IRR method, find the PV of the interest for the 5 years and sum them to the PV of the rdemption value of the debt, less the PV of the market value of the debt. by ******

[SandyHood]

I thought it was 6.17%

I treated the tax saving as a cash in flow in the year of the interest payment payment. So the net interest cost per year is $8.40, and at the end of the 5 years the $100 will be repaid.

At a discount rate of 6.17%, the $107.59 saved now gives an NPV of 0 for 5 annual net payments of $8.40 starting in 1 year and a single payment of $500 at the end of year 5.

[Dagabie]

Hi frankmudiaga,

I agree with the answer given by Siddharth.

That formula is used for redeemable securities like bonds.

The IRR formula is used mostly for redeemable Preference shares

[knightwolf]

Hi,

the formula to find the cost of redeemable debt is

K = (Interest * (100 - Tax Rate) + (Redeemable value of debt - Net Proceeds)/N)/(Redeemable value of debt + Net Proceeds)/2

Net Proceeds - Money raised through issue - Cost involved in issue of debenture

So for your question

K = (12*(100 - 30 )+(100-100)/5)/(100+100)/2)

K = (12*70)+0)/100

K = 8.4 %

[knightwolf]

Hello Sir,
Please forward this question to my mail