Question
A company has Rs.500,000 of debt outstanding with a
coupon rate of 10%. The yield to maturity on these bonds is 15%. If the rate of tax is 40%, what is the companyās after-tax cost of debt?Solution
In case of a redeemable long term debt, the cost of debt is the investorās yield to maturity adjusted by the firmās tax rate. The question of yield to maturity arises only when the loan is taken either at discount or at premium. As such, the YTM is considered as cost of debt here and not the coupon rate. Therefore, the after-tax cost is: Ā 15% * (1- 40%) = 0.09 ~ 9%
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