A company raises Rs. 1,00,000 by issue of 1000, 10% debentures of Rs. 100 each at a discount of 2%…
For a 10% debenture of Rs. 100 issued at a 2% discount (net proceeds NP = Rs. 98) and redeemable at par (RV = Rs. 100) after 10 years with a 40% corporate tax rate, the…
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A company raises Rs. 1,00,000 by issue of 1000, 10% debentures of Rs. 100 each at a discount of 2% redeemable after 10 years. If the corporate tax rate is 40%, what would be the cost of capital?
Answer and explanation
Correct answer C
For a 10% debenture of Rs. 100 issued at a 2% discount (net proceeds NP = Rs. 98) and redeemable at par (RV = Rs. 100) after 10 years with a 40% corporate tax rate, the after-tax cost of debt is calculated using the approximation formula. Specifically, [(Interest + (RV - NP)/n) / ((RV + NP)/2)] x (1 - t) = [(10 + 0.2) / 99] x 0.60 = (10.2 / 99) x 0.60 = 6.18%.
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UGC NET Commerce