Cost of debt

The first step in estimating the cost of debt is to determine the rate of return debt holders require, r_d.

Disney Company has seven issues of bonds. The main characteristics of the bonds are represented in the table below.

Table 13 Bonds issued by Disney Company

Using information from the part dedicated to the bonds of the company we have that the weighted yield to maturity of all bonds Disney Company issues is 1,83%.

The required return to debt holders, r_d, is not equal to the company’s cost of debt because interest payments are deductible, which means the government in effect pays part of the total cost. As a result, the weighted average cost of capital is calculated using the after-tax cost of debt, r_d(1-T), which is the interest rate on debt, r_d, less the tax savings that results because interest is deductible.[12]

According to the Restated Certificate of incorporation of Walt Disney Company the company is registered in the State of Delaware, USA. The tax rate for corporation income tax return is 8,7%.[13] United States corporate income tax is 35%.[14] Thus means the tax rate is 43,7%.

Now we can calculate the after tax cost of debt:

r_d(1-T) = 1,83%*(1 – 0,437) = 1,03%.

The cost of debt is quite small because of small yield of maturity of the bonds. It means that we deal with low risky, reliable issuer.

Then we estimate the cost of common equity.

Date: 2015-01-29; view: 886