A recent leveraged buyout was financed with $50M. This amount comprised of partner's equity capital of $12M, $20M unsecured debt borrowed at 7% from one bank, and the remainder from another bank at 8.5%. What is the overall after-tax cost of the debt financing if you expect the firm's marginal tax rate to be 33%?

Question

Quizplus · Accepted Answer

The after-tax cost of debt is calculated by taking the weighted average of the interest rates, adjusted for the tax rate. The first bank loan is $20M at 7%, and the second bank loan is $18M at 8.5%. The total debt is $38M. The weighted average interest rate is (20/38)*7% + (18/38)*8.5% = 7.684%. The after-tax cost is 7.684% * (1 - 0.33) = 5.147%, approximately 5.17%.

A Recent Leveraged Buyout Was Financed with $50M