Forums › Ask ACCA Tutor Forums › Ask the Tutor ACCA AFM Exams › Weighted average cost of debt.
- This topic has 1 reply, 2 voices, and was last updated 8 years ago by John Moffat.
- AuthorPosts
- April 18, 2015 at 10:36 pm #241769
Hello Mr Moffat,
Sir i was going through past year questions, came across the Dec 2007, Q.5 and got confused on one part, to summarize the scenario,
The company had a current debt of 4% 400M, and they were planing to issue another debt of 6% 400M at par. Raising this additional debt would change the risk of the company and affect credit rating. It would result increasing the cost of the existing debt from 4% to 4.4%.
The question in the scenario was to calculate the increase in the company effective cost of debt capital.
What they did in the module answer is calculating the effective cost of debt by
(400/400+395.6 * 6%) + (395.6/400+395.6 * 4.4%) = 5.21% * 0.7 = 3.64%
(Market value of the existing debt after issue of the new debt is 395.6M
Tax is 30%)My question is at the last part of calculation, they directly multiplied by net of tax, ( 5.21% * 0.7)its like assuming the debt is irredeemable debenture.
I remember in your lectures you said that calculating the cost of debt of redeemable debt we cannot just multiply direct from net of tax, its only irredeemable debenture that’s what we can do that. And also i thought that the individual cost of debt is already net of tax, so there was no need at the last part to net once again.The question link is https://www.accaglobal.com/content/dam/acca/global/pdf/p4_2007_dec_q.pdf
The answer link is https://www.accaglobal.com/content/dam/acca/global/pdf/p4_2007_dec_a.pdf
I hope you understood my question
I appreciate for the time you took going through this whole question.Thanks
April 19, 2015 at 12:29 pm #241813What you say is correct, and strictly speaking would be more accurate.
- AuthorPosts
- You must be logged in to reply to this topic.