2) Cost of redeemable debt:

A) When repayment of principal amount in one lump sum at the time of maturity. This may
be computed mathematically in two ways:
i) First method:

Where, kd= cost of debit after tax

I= cash outflow on account of interest payment in period 1, 2, 3….,n
T= tax rate
N= no of years in which debt is to be redeemable
Pn= cash outflow on account of repayment of principle in the year of maturity
Nd= net cash proceed at the time of issue of debentures
ii) Second method:
kd = {I(1=t)+(Pd-Nd)/n}/0.05(Pd-Nd)
Where, kd= cost of debit after tax
I= annual interest payment
T= tax rate
N= no of years in which debt is to be redeemable
Pd= principle value if debenture at the time of redemption
Nd= net cash proceed at the time of issue of debentures

This method is popularly known as short-cut method for determining kd. However
this method can’t be applied when repayment of principal amount is made in
installments instead of one lump sum repayment.
b) when repayment of principal amount is made in number installments:
This may be computed mathematically as follows

Where, kd= cost of debit after tax

I= annual interest payment
T= tax rate
N= no of years to maturity
Pd= principle value if debenture at the time of redemption
Nd= net cash proceed at the time of issue of debentures
iv) Cost of preference share capital:
The rate of dividend is fixed in advance in case of preference share at the time of their issue.
Hence the dividend rate can be taken as its cost since it is this amount which the company
intends to pay to its preference shareholders. Therefore, no adjustment is required for taxes while
calculating the cost of preference share capital.
Preference share either be redeemable irredeemable & therefore, the cost of capital may also be
ascertained accordingly.
1) Cost of capital of irredeemable preference share(Kp):
Cost of capital of irredeemable preference share (Kp) is the rate of preference dividend divided
by net cash proceed from the issue. Therefore
Kp= D/Np
Where, D= rate of dividend
Np= net cash proceed from the issue of preference share
 2) Cost of capital of redeemable preference share(Kp):
This may be computed in two ways to those of cost of debt.
i) First method:

Where, Npo= net cash proceed from issue of preference share capital
D= annual preference dividend in period 1, 2, 3… n
PPn= amount payable at the time of redemption
Kp= cost of preference share capital
N= no of years to redemption
This method also, involves the trial & error approach and, therefore a long procedure to calculate
Kp.

ii) Second method: (short-cut method)

Where, D= annual preference dividend

PPn= amount payable at the time of redemption
Kp= cost of preference share capital
N= no of years to redemption
Np= net cash proceed from the issue of preference share capital
This is also very similar to the calculation of redeemable debt except the tax adjustment
as preference dividend is payable out of profit after tax.