Cost of debt is the main method of cost of capital in finance and financial management. Cost of debt is calculated on the debt, bonds, loan or debentures by multiplying interest rate with given amount of debt. If rate is not given, then you can also calculate cost of debt rate. This rate is called Kd.
Cost of Debt without Any Adjustment (Kd) = Amount of Interest / Amount of Loan X 100
In case, company issues the bonds or debenture on premium, at that time, we can calculate cost of debt by following formula
Cost of Debt (Kd) = Interest amount/ (Amount of debenture + Amount of premium) X 100
In case, company issues the bonds or debenture on discount, at that time, we can calculate cost of debt by following formula
Cost of Debt (Kd) = Interest Amount/ (Amount of Debenture – Amount of Discount) X 100
If we have to compare cost of debt with cost of equity, then we have to calculate it after adjustment of tax because interest is deducted from profit before tax but dividend is deducted from profit after tax.
Cost of Debt = Amount of Interest (1 – Tax Rate) / Amount of Loan X 100
For example, interest rate of company is 10% before tax; calculate cost of debt after tax of 30%
Cost of Debt = 10 % X (1-30%) = 7%
Analysis of Cost of Debt
In following video tutorial, Wall St. Training Self-Study Instructor, Hamilton Lin, CFA has analyze the cost of debt and tell us its deep nuance or tints.
Cost of Debt without Any Adjustment (Kd) = Amount of Interest / Amount of Loan X 100
In case, company issues the bonds or debenture on premium, at that time, we can calculate cost of debt by following formula
Cost of Debt (Kd) = Interest amount/ (Amount of debenture + Amount of premium) X 100
In case, company issues the bonds or debenture on discount, at that time, we can calculate cost of debt by following formula
Cost of Debt (Kd) = Interest Amount/ (Amount of Debenture – Amount of Discount) X 100
If we have to compare cost of debt with cost of equity, then we have to calculate it after adjustment of tax because interest is deducted from profit before tax but dividend is deducted from profit after tax.
Cost of Debt = Amount of Interest (1 – Tax Rate) / Amount of Loan X 100
For example, interest rate of company is 10% before tax; calculate cost of debt after tax of 30%
Cost of Debt = 10 % X (1-30%) = 7%
Analysis of Cost of Debt
In following video tutorial, Wall St. Training Self-Study Instructor, Hamilton Lin, CFA has analyze the cost of debt and tell us its deep nuance or tints.
May I know why we are considering market price in the denominator for calculating cost of irredeemable debentures inspite of the fact that the the actual market price is not the amount to be received by the company and it is just a traded price in the stock which can not influence the cost of capital of the company ??????????????
ReplyDeleteif a firm can borrow at an interest rate of 11%, and if it has a marginal federal plus state tax rate of 40%, then it’s after tax-cost of debt is 6.6%. Calculate cost of debt.
ReplyDeleteplease help me out in this