Question

The chapter demonstrated that a firm borrowing in a foreign currency could potentially end up paying a very different effective rate of interest than what it expected. Using the same baseline values of a debt principal of SF1.5 ​million, a​ one-year period, an initial spot rate of SF1.5400​/$, a 5.072​% cost of​ debt, and a 35​% tax​ rate, what is the effective​ after-tax cost of debt for one year for a U.S.​ dollar-based company if the exchange rate at the end of the period​ was:

a. SF1.5400​/$

b. SF1.4700/$

c. SF1.4270​/$

d. SF1.6320​/$

Answer 1

	a	b	c	d
Interest payable in SF (1500000*5.072%)	76080	76080	76080	76080
Exchange rate (SF/$)	1.5400	1.4700	1.4270	1.6320
Interest repayable in $	$       49,403	$       51,755	$        53,315	$        46,618
After tax interest in $ at 1-35%	$       32,112	$       33,641	$        34,655	$        30,301
Amount received as loan in $ at the beginning of the year = 1500000/1.54 =	$   9,74,026	$    9,74,026	$    9,74,026	$    9,74,026
Effective after tax cost of debt = After tax $ interest/Loan in $	3.30%	3.45%	3.56%	3.11%