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Hi Sir, i have some queries regarding the market value of the Fugae Co’ debt.
1. as per examiner answer, the current value of a $100 bond is $102.14.
my question is why we no need deduct 20% tax rate from the $5.4 interest in order to get the market value?i mean why not $5·4×0.8 x 1·048^–1 + $5·4×0.8 x 1·048^–2 + $5·4×0.8 x 1·048^–3 + ($5·4×0.8 + $100) x 1·048^–4 = $98.28
2. if question got mentioned cost of debt, how do we know this cost of debt is after tax of before tax? Because in this question, the cost of debt is 4.80%, then how do we know when calculate the WACC, this 4.8 is after tax or before tax?
1. It is the investors who fix the market value and they are not affected by company tax. Company tax is only relevant when calculating the cost of debt, because it is the company that gets tax relief on the interest.
2. The cost of debt is always after tax unless specifically told differently.
Hi Sir, thank you for your reply.
regarding the your reply in question 2, The cost of debt is always after tax unless specifically told differently.
In this Nahara question mentioned : The debt is rated at B+ and the credit spread on
B+ rated debt is 80 basis points above the risk-free rate of return.and in examiner answer,this cost of debt 4.8% is before tax, so need to x80% in order to find out WACC. but i dun think that question got mentioned this 4.8% is before tax.
so do we need make the assumption in our answer every time regarding the Cost of debt given by question is after tax/before tax?
The risk free rate is always before tax 🙂
(It is the return that investors would require if there was no risk)
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