Estimating the Cost of Debt Capital

Estimating the Cost of Debt Capital

Kellogg Company manufactures cereal and other convenience food under its many well-known brands such as Kellogg’s®, Keebler®, and Cheez-It®. The company, with over $13.5 billion in annual sales worldwide, partially finances its operation through the issuance of debt. At the beginning of its 2015 fiscal year, it had $6.2 billion in total debt. At the end of fiscal year 2015, its total debt had increased to $6.3 billion. Its fiscal 2015 interest expense was $266 million, and its assumed statutory tax rate was 37%.

a. Compute the company’s average pretax borrowing cost. (Hint: Use the average amount of debt as the denominator in the computation.)

Round your answer to one decimal place (ex: 0.0345 = 3.5%).

Answer = 4.3%

b. Assume that the book value of its debt equals its market value. Then, estimate the company’s cost of debt capital.

Round your answer to one decimal place (ex: 0.0345 = 3.5%).

Answer = 2.7%