Skip to content

CA Intermediate · Financial Management and Strategic Management · Cost of Capital

Which one of the following is treated as the explicit cost of a source of finance in the study of cost of capital?

Explicit cost of a source of finance is the discount rate that equates the present value of cash inflows received by the firm with the present value of cash outflows paid on it. The coupon rate ignores issue price and flotation costs, so it does not measure explicit cost.

  1. AThe rate of discount that equates the present value of cash inflows from the source with the present value of cash outflows to itCorrect
  2. BThe coupon rate printed on the instrument irrespective of issue price
  3. CThe book value of the source divided by total capital
  4. DThe rate of return earned by the firm on its existing assets

Explanation

Explicit cost of any source is the discount rate that equates the present value of the cash inflows received by the firm from that source with the present value of the cash outflows it pays. The coupon rate alone ignores issue price, flotation cost and redemption premium, so it is not the explicit cost.

Did you get it right without looking?

One question tells you little. A timed set on Cost of Capital shows your real accuracy, how long you take and where you lose marks.

Practise Cost of CapitalFree diagnostic mock

More Cost of Capital questions