“The interest tax shield plays a key role in the WACC valuation framework”. Discuss.

“The interest tax shield plays a key role in the WACC valuation framework”.

Discuss.

Expert Solution

Interest tax shield will be playing an important role in weighted average cost of capital because interest rate tax shield will be reflecting the the tax deduction which is available on the interest payment by the company and interest payment will be made on the debt capital and it will lead to overall reduction of the cost of debt and it will also need to overall reduction of the cost of capital of the company.

Interest which are payable on debt capital is tax deductible in nature and it will be leading to overall reduction in the cost of debt because of lower burden on the company and it will be leading to lower cost of equity as well as lower cost of capital and hence it can be said that the weighted average cost of capital will be lower due to tax deduction on the interest and it is named as interest tax shield, so it can be said that there is a a benefit to the company in form of interest tax shield and it will be related to lower weighted average cost of capital to the company.

when we will be calculating the cost of debt we will be adjusting the cost of debt with (1-tax) ,and it will lower the overall cost of debt and it will lower the overall weighted average cost of capital.

jeff jeffy answered 1 year ago

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