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Hello John,
-A company has 7% loan notes in issue which are redeemable in seven years’ time at a 5%
premium to their nominal value of $100 per loan note. The before?tax cost of debt of the
company is 9% and the after?tax cost of debt of the company is 6%.1 In the question, 9% was used and not 6%. Could you please explain why?
Thanks
You do not say what the question is requiring. I assume that you are required to calculate the market value of the debt.
As I stress in my free lectures (because it is so often relevant in the exam), it is investors who determine the market value of debt. It is the present value of their expected inflows discounted at their required rate of return. Investors are not affected by company tax and therefore their required return is the pre-tax cost of debt.
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