<p>Let's address your question in a canonical manner. Say that:</p>

<ol>
<li>the required rate of return of (private) investors is denoted by <span class="math-container">$r$</span>.</li>
<li>the interest rate or the cost of debt is denoted by <span class="math-container">$r_D$</span> (naturally <a href="https://en.wikipedia.org/wiki/Cost_of_capital" rel="nofollow noreferrer"><span class="math-container">$r_D &lt; r$</span></a>)</li>
<li>the share of debt in the capital structure of the company is denoted by <span class="math-container">$X\%$</span></li>
<li>the corporate tax rate is denoted by <span class="math-container">$T_c$</span></li>
</ol>

<p>It follows that the average cost of capital (average over equity and debt), <span class="math-container">$r'$</span>, is such that</p>

<p><span class="math-container">$r' = X\% r_D (1-T_c) + (1-X\%) r$</span></p>

<hr>

<p>In your case, <span class="math-container">$X\% = 100\% = 1$</span>, then <span class="math-container">$r' = r_D(1-T_c)$</span>.</p>

<blockquote>
  <p>[...] will the cost of debt be simply equal to the interest rate? If not why?</p>
</blockquote>

<p>No. Because of <a href="https://en.wikipedia.org/wiki/Cost_of_capital#Cost_of_debt" rel="nofollow noreferrer"><span class="math-container">$T_c$</span>, the corporate tax rate</a> being potentially non-zero.</p>

CC BY-SA 4.0
2019-11-20T22:09:50.000Z
Any question @Metrician ?
keepAlive
CC BY-SA 4.0
2019-11-20T22:12:55.477Z
No that was very clear. Thanks a lot.
Metrician
CC BY-SA 4.0
2022-10-15T13:23:14.277Z
@Metrician and keepAlive, there is another issue besides tax. As Berk & DeMarzo note in Chapter 12 of "Corporate Finance" 4th ed. (see box "Common Mistake" on p. 450), using the debt yield as its cost of capital is a mistake. This is because the interest payments and the repayment of the principal are only promised, not actual. In case of a bankruptcy, these payments may be reduced. Therefore, the actual cost of capital is lower than the interest rate.
Richard Hardy
CC BY-SA 4.0
2022-10-15T13:32:04.800Z
@keepAlive, I believe there is another issue besides tax. See my answer.
Richard Hardy
CC BY-SA 4.0
2019-11-20T21:48:40.953Z
2019-11-20T22:00:20.247Z
2019-11-20T22:00:20.247Z
keepAlive
<p>@keepAlive's answer includes a good point about tax but misses another, more subtle issue. As Berk &amp; DeMarzo note in Chapter 12 of <a href="https://www.pearson.com/se/Nordics-Higher-Education/subject-catalogue/finance/corporate-finance-5e-berk-and-demarzo.html" rel="nofollow noreferrer">&quot;Corporate Finance - 5th Global Edition&quot;</a> (see box &quot;Common Mistake&quot; on p. 454), using the debt yield as its cost of capital is a mistake. This is because the interest payments and the repayment of the principal are only <em>promised</em>, not actual. In case of a bankruptcy, these payments may be reduced. Therefore, the actual cost of capital is lower than the interest rate on the loan.</p>
<p><a href="https://i.sstatic.net/Rpu95.png" rel="nofollow noreferrer"><img src="https://i.sstatic.net/Rpu95.png" alt="enter image description here" /></a></p>
<p>This issue is minor  to the point that it can be neglected for relatively safe debt (for sure if rated AAA or AA, mostly so if rated A and BBB, according to Table 12.2 on p. 454), but can become pretty significant for high-risk debt (BB and lower, ibid.).</p>
<p><a href="https://i.sstatic.net/PFy8k.png" rel="nofollow noreferrer"><img src="https://i.sstatic.net/PFy8k.png" alt="enter image description here" /></a></p>

CC BY-SA 4.0
2022-10-15T15:34:32.857Z
You are indeed right. The cost of capital I compute is somehow made under a "no bankruptcy" hypothesis. +1
keepAlive
CC BY-SA 4.0
2022-10-15T15:36:08.367Z
@keepAlive, thanks! You may want to check out a related question of mine: ["Cost of debt: How to adjust YTM for the possibility of bankruptcy?"](https://economics.stackexchange.com/questions/53110).
Richard Hardy
CC BY-SA 4.0
2022-10-15T13:31:35.570Z
2022-10-15T13:31:35.570Z
Richard Hardy
<p>When estimating a company's Cost of Debt for a Weighted Average Cost of Capital (WACC) calculation we normally look into its bond yield. But for a private company with 100% debt capital structure, will the cost of debt be simply equal to the interest rate? If not why?</p>

CC BY-SA 4.0
2019-11-20T21:18:03.883Z
Yes I'd appreciate that
Metrician
<finance><debt><corporate-finance><cost><capital>
Does a private company that is 100% financed by a bank loan have a WACC equal to the interest rate?
Metrician
# Does a private company that is 100% financed by a bank loan have a WACC equal to the interest rate?

(Asked by: username_0 on 2019-11-17)

When estimating a company's Cost of Debt for a Weighted Average Cost of Capital (WACC) calculation we normally look into its bond yield. But for a private company with 100% debt capital structure, will the cost of debt be simply equal to the interest rate? If not why?

**Tags:** finance, debt, corporate-finance, cost, capital

> **Comments:**
> **username_0**: Yes I'd appreciate that  

---

## 2 answers

### Answer by username_1 on 2019-11-20. Score: 1 | Accepted answer

Let's address your question in a canonical manner. Say that:

1. the required rate of return of (private) investors is denoted by $r$.
2. the interest rate or the cost of debt is denoted by $r\_D$ (naturally [$r\_D < r$](https://en.wikipedia.org/wiki/Cost_of_capital))
3. the share of debt in the capital structure of the company is denoted by $X\%$
4. the corporate tax rate is denoted by $T\_c$

It follows that the average cost of capital (average over equity and debt), $r'$, is such that

$r' = X\% r\_D (1-T\_c) + (1-X\%) r$

---

In your case, $X\% = 100\% = 1$, then $r' = r\_D(1-T\_c)$.

> [...] will the cost of debt be simply equal to the interest rate? If not why?

No. Because of [$T\_c$, the corporate tax rate](https://en.wikipedia.org/wiki/Cost_of_capital#Cost_of_debt) being potentially non-zero.

> **Comments:**
> **username_1**: Any question @username_0 ?  
> **username_0**: No that was very clear. Thanks a lot.  
> **username_2**: @username_0 and username_1, there is another issue besides tax. As Berk & DeMarzo note in Chapter 12 of "Corporate Finance" 4th ed. (see box "Common Mistake" on p. 450), using the debt yield as its cost of capital is a mistake. This is because the interest payments and the repayment of the principal are only promised, not actual. In case of a bankruptcy, these payments may be reduced. Therefore, the actual cost of capital is lower than the interest rate.  
> **username_2**: @username_1, I believe there is another issue besides tax. See my answer.  

---

### Answer by username_2 on 2022-10-15. Score: 1

@username_1's answer includes a good point about tax but misses another, more subtle issue. As Berk & DeMarzo note in Chapter 12 of ["Corporate Finance - 5th Global Edition"](https://www.pearson.com/se/Nordics-Higher-Education/subject-catalogue/finance/corporate-finance-5e-berk-and-demarzo.html) (see box "Common Mistake" on p. 454), using the debt yield as its cost of capital is a mistake. This is because the interest payments and the repayment of the principal are only *promised*, not actual. In case of a bankruptcy, these payments may be reduced. Therefore, the actual cost of capital is lower than the interest rate on the loan.

[![enter image description here](https://i.sstatic.net/Rpu95.png)](https://i.sstatic.net/Rpu95.png)

This issue is minor to the point that it can be neglected for relatively safe debt (for sure if rated AAA or AA, mostly so if rated A and BBB, according to Table 12.2 on p. 454), but can become pretty significant for high-risk debt (BB and lower, ibid.).

[![enter image description here](https://i.sstatic.net/PFy8k.png)](https://i.sstatic.net/PFy8k.png)

> **Comments:**
> **username_1**: You are indeed right. The cost of capital I compute is somehow made under a "no bankruptcy" hypothesis. +1  
> **username_2**: @username_1, thanks! You may want to check out a related question of mine: ["Cost of debt: How to adjust YTM for the possibility of bankruptcy?"](https://economics.stackexchange.com/questions/53110).  

---

