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Dear Sir,
In this question when evaluating the bahari project APV the examiner has used 7% to discount the tax shied. 7 is the company borrowing rate but the project is 100% financed by cheap loan at 3%. Why can’t we use 3% to discount? Is there a general rule as what rate to use? In some calculations (other questions) risk free rate is used.
There are two separate things here.
First, the tax benefit can be discounted at either the cost of debt or the risk free rate – there are arguments for both and therefore the examiner always allows the use of either. (And I do state this in my free lecture)
Secondly, if there is a cheap loan, then the subsidy benefit is dealt with separately. We don’t discount at the cheap rate.
Sir , for your second point , u mean we only use subsidised loan rate when we are calculating for Tax shield on subsidised loan just like the examiner gives full credit for using government rate rather than normal borrowing rate in 2018 DEC QUES (Amberle Co ) for calculating tax shield on subsidised loan . Other than this , we should use either normal borrowing rate or risk free rate . Am i right ? Just wanna double confirm on this TQQ
My workings for PV of tax shield and subsidy benefit (Milma Co) are as follows :
Annual tax shield on subsidised loan = 150m x 3% x 0.25= 1.125m
1.125m x 11.938 (15 years ,AF@3% ,11.938) =13.4mSubsidy benefit
Interest saved = (7%-3%) x 150m = 6m x AF@7%,9.108 = 54.648m
Tax on interest saved = 6m x 25% = -1.5m x AF@7%,9.108 =-13.662m
PV = 41mAm I doing right ? Because my value of financing effects is different from examiner’s answer , wanna know whether my answer will be accepted or not
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