Cost of Debt
The cost of the debt calculator determines the cost incurred by the company for raising funds through debt. Debt can be redeemable and irredeemable, and it can be issued at par, premium, or discount. And the interest payment paid/payable by the company along with any discount offered on the issue or any premium to be paid on redemption of such debt is the cost of debt for the company. The cost of debt is denoted by kd.
The Formula for Calculating Cost of Debt
The cost of debt is basically the rate at which the price on which such debt is issued is equal to its face value plus interest payments made in the whole period for which such debt is issued.
Hence, the formula for calculating the cost of debt is as follows:
Where PV = Price at which such debt is issued
Interest = Interest amount payable
n = Number of years for which such debt is issued
and FV = Par value of such debt
About the Calculator / Features
This is a simple excel calculator that can easily access and calculate the cost of debt. The user simply has to provide the following data to the calculator to know the cost of debt in just one simple click.
- Period of interest payment
- Price of debt at which it has been issued
- Face value of debt issued
- Number of years to maturity
- Interest Rate
Cost of Debt Calculator
How to Calculate using a Calculator?
The user simply has to provide the following data to the calculator.
Period of Interest Payment
Enter the periodicity or interval of offering interest. For example, a company may provide interest monthly or quarterly, or annually.
Price of Debt
Enter the amount at which the company issues debt. It may issue such debt on discount or premium or at par too.
Face Value of Debt
Enter the face value of such debt.
Number of Years to Maturity
The period for which the debt has been issued.
Interest Rate
Enter the rate of interest offered on such debt.
Example of Cost of Debt
Let us understand this concept with the help of an example.
XYZ Ltd. issued 10,000 10% debentures for 1,000 each at par for a period of 3 years. The company will make interest payments monthly. The tax rate is 40%. Calculate the cost of debt.
Number of interest payments during a year = 12
Total number of interest payments till the maturity = 12*3 = 36
Interest payment per payment period = 1,000*10%/12 = 8.33
Therefore, Cost of Debt (using IRR method) = 10%
And the cost of debt (after tax) = kd(1 – t)
Where t = tax rate
It is very important to reduce this cost by the tax benefits it earns
Hence, the cost of debt (after-tax) = 10(1-0.4) = 6%
Interpretation of Cost of Debt
By the cost of debt, we generally understand that it is the amount of interest we pay, and that is true also as that remains the effective payout also.
However, we need to understand one important point. And that is the tax benefits available on the interest payouts. Usually, all interest payments on the debt remain tax-deductible. Hence, the effective cost would always be lower due to the savings in tax payable on this account. So for any management decision, we need to consider the impact of tax savings while determining the effective cost of debt.
