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Dear John ,
for instance if the question gives
risk free rate 6%
Coupon rate 8 % redeemable bond at 5 yrs
While calculating the P V of tax shied ,,, shall we assume debt to be risk free and use discount factor of 6 percent or shall we use 8 percent?Another question,
in case of subsidised cheap loan,
if cheap loan is available at 4 %, risk free rate =6% , coupan rate 8% redeemable bond, then
while calculating P.V of tax shield and P V of Cheap loan ,,
which discount factor shall we use i, e 4 percent or 6 percent or 8 percent?For your first question, then you have no choice but to use 6%. Using the coupon rate would make no sense.
For our second question, you discount at either the risk free rate or the 4% – the examiner allows either because there are arguments for using both (as I explain in my free lectures on this).
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