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Hello,
May I know in what special circumstances we should use the post-tax cost of debt or pre-tax cost of debt? I find this part very confusing. Are there any general rules in order to apply these discount rates?
For example, I came across a question where the the NPV is calculated with a post-tax Kd but when it advanced further into APV, the pre-tax Kd is used. Can you please explain this to me?
When calculating a weighted average cost of capital for the calculation of the NPV, we always use the post-tax cost of debt.
With APV we are calculating the PV of the tax shield on debt and for that we either use the risk-free rate or the pre-tax cost of debt (in theory the two would be the same. In practice they are not, but the examiner always allows either).
For an explanation of this you really need to watch the free lectures on APV – I cannot type it all out here 🙂
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