(a):
Calculate cost of debt capital before tax.
(a):
Explanation of Solution
Interest expense (IP) is $1,200,000 per year. Initial received payment (RP) is $19,000,000. Face
Substitute i as 6% by trial and error method in the above calculation.
Since the calculated value is greater than the initial received payment, increase the cost of capital from 6% to 6.53%.
The calculated value is equal to the initial received payment. Thus, it is confirmed that the cost of debt capital is 6.53%.
(b):
Calculate cost of debt capital after tax.
(b):
Explanation of Solution
Effective tax rate (ET) is 29%. Cost of capital (i) before tax can be calculated as follows:
Substitute i as 5% by trial and error method in the above calculation.
Since the calculated value is less than the initial received payment, decrease the cost of capital from 5% to 4.73%.
The calculated value is equal to the initial received payment. Thus, it is confirmed that the cost of debt capital is 4.73%.
(c):
Spreadsheet function.
(c):
Explanation of Solution
Spreadsheet function for cost of debt capital before tax is given below.
= RATE(15,-1200000,19000000,-20000000)
Spreadsheet function for cost of debt capital after tax is given below.
= RATE(15,-1200000*(1-0.29),19000000,-20000000)
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Chapter 10 Solutions
EBK ENGINEERING ECONOMY
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