easy · Principles of Finance cost-of-capital-structure
If the yield on a firm's outstanding bonds is 7%, but the bonds were issued with a 4% coupon, which rate should be used as the pre-tax cost of debt in the WACC calculation?
- 9.33%, the currently quoted market bond yield simply adjusted upward for the firm's equity beta and risk profile.
- 5.5%, calculated by simply averaging the bond's original 4% coupon rate together with the current 7% market yield rate.
- 4%, because that figure represents the actual contractual cash interest expense the firm is currently obligated to pay its bondholders.
- 7%, because it represents the current market opportunity cost and the rate at which the firm could issue new debt today.
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