Page 73 - DMGT409Basic Financial Management

Basic Financial Management

Notes Solution:

Issued at Pre-tax Post-tax

(i) Face value ` 15 = 15 per cent 15 (1 0.35− ) = 9.8 per cent
100 100

(ii) 10% premium ` 15 = 13.7 per cent 15 (1 0.35− ) = 8.9 per cent
110 110
+
(100 10)
(iii) 10% discount
15 (1 0.35− )
` 15 = 16.67 per cent = 10.9 per cent
90 90
−
(100 10)
Cost of Redeemable Debentures/Debt

Redeemable debentures that, are having a maturity period or are repayable after a certain given
period of time. In other words, these type of debentures that are under legal obligation to repay
the principal amount to its holders either at certain agreed intervals during the duration of loan
or as a lumpsum amount at the end of its maturity period. These type of debentures are issued by

many companies, when they require capital for fulfilling their temporary needs.
Cost of Redeemable Debentures

) (f + +
−
I (1 t + d pr − pi )/N
K = m
p (RV + NP )/2

Where,
I = Interest.
t = Tax rate.

f = Flotation cost.
d = Discount.

p = Premium on redemption.
r
p = Premium on issue.
i
RV = Redeemable value.
NP = Net proceed.

N = Maturity period of debt.
m
Illustration 16: BE Company issues ` 100 par value of debentures carrying 15 per cent interest.
The debentures are repayable after 7 years at face value. The cost of issue is 3 per cent and tax rate
is 45 per cent. Calculate the cost of debenture.
I (1 t− ) (f+ + d + pr − pi )/N
K = m
p
(RV + NP )/2

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