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Dear Sir,
I am confused that when we use the information to calculate the cost of redeemable loan notes, the cost of debt we derived is after tax cost (as the interest if after tax). However, when we use the cost of debt to derive market value of redeemable loan notes, the cost of debt would be before-tax? Why we do not use the cost of debt after cost to calculate market value of redeemable loan notes?
As I stress in my lectures (because this is so common a question in the exam), it is investors who determine the market value by discounting the expected receipts at their required rate of return.
Investors are not affected by company tax – and therefore their required rate of return is the same as the before-tax cost of debt.
Again, please do watch my free lectures.
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