Computation of the cost of capital, Financial Management

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Q. Computation of the cost of capital?

Computation of overall cost of capital of the firm invoices

Cost of debts: debt may be issued at par , at premium or discount it may be perpetual or redeemable . the technique of computation of the costs in each can be explained as follows :

i) Debt issue at par: the computation of the cost of debts issued at par is comparative an easy task. It is the explicit rate of the interest rate adjusted further for the tax liabilities of the company. It may be computed according to the followings formula

Kd= (1-T)R

ii) Debts issued at the premium or discount: in case the debenture issued at premium or discount the cost of the debts should be calculated on the basis of net proceeds realized on the accounts of issue of such debenture or the bonds. Such costs may further be adjusted keeping in the view the tax rate applicable to the company

iii) Cost of the redeemable Debts: while calculating the cost of debts we have presumed that debenture are not redeemable during the life time of the company. However if the debenture are redeemable after the expiry limit of a fixed period the effective cost of the debenture before tax can be calculated by using the followings -

KD(before Tax) = {l+(p-np)/n}/{ (p+np)/2}


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