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Which Cost Of Debt Should Be Used In Forecasting Cash Flows?

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  • IGNACIO VÉLEZ-PAREJA

    ()

Abstract

ABSTRACTFrequently, analysts and teachers use the capitalized rate of interest for the cost of debt when forecasting and discounting cash flows. Others estimate the interest payments when forecasting annual financial statements or cash flows based on the average of debt calculated with the beginning and ending balance. Others use the end of year convention that calculates the yearly interest multiplying the beginning balance times its contractual cost. The use of one or other methods is critical for the definition of the tax savings. These approaches are illustrated with examples and the differences in using them. A simple proposal to solve the problem is presented.

Suggested Citation

  • Ignacio Vélez-Pareja, 2009. "Which Cost Of Debt Should Be Used In Forecasting Cash Flows?," ESTUDIOS GERENCIALES, UNIVERSIDAD ICESI, June.
  • Handle: RePEc:col:000129:006346
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    References listed on IDEAS

    as
    1. Ignacio Vélez-Pareja & Rauf Ibragimov & Joseph Tham, 2008. "Constant Leverage And Constant Cost Of Capital: A Common Knowledge Half-Truth," ESTUDIOS GERENCIALES, UNIVERSIDAD ICESI, June.
    2. Ignacio Vélez-Pareja, & Julián Benavides-Franco, 2006. "There exists circularity between WACC and value? Another solution," ESTUDIOS GERENCIALES, UNIVERSIDAD ICESI, March.
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    More about this item

    Keywords

    Cost of debt; forecasting financial statements; seasonality.;

    JEL classification:

    • G30 - Financial Economics - - Corporate Finance and Governance - - - General
    • G31 - Financial Economics - - Corporate Finance and Governance - - - Capital Budgeting; Fixed Investment and Inventory Studies
    • G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill

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