In the formula \(k_d = \frac{I}{B_0}\) used for computation of the cost of debt capital, \(B_0\) denotes as which one of the following ?
Net cash inflow at the time of issue
Option 1 — Net cash inflow at the time of issue is correct.
The formula \(k_d = \frac{I}{B_0}\) gives the (before-tax) cost of irredeemable/perpetual debt, where \(I\) is the annual interest payment and \(B_0\) is the net proceeds the firm actually receives when it issues the debentures — i.e. the net cash inflow at the time of issue, after adjusting the issue price for any flotation costs, discount or premium.
Using net proceeds (rather than the face value) is important because the effective cost of debt is measured against the money the company genuinely raises, not its nominal par value. If a ₹100 debenture carrying ₹10 interest is issued for net proceeds of ₹95, then \(k_d = 10/95 = 10.5\%\), higher than the 10% coupon.
Why the other options are wrong: the market price (2) is relevant to a secondary-market investor, not the issuer’s cost; the face value (3) ignores flotation adjustments; option (4) describes a resale value to a holder, which is irrelevant to computing the issuer’s cost of raising debt.
Takeaway: in \(k_d = I/B_0\), \(B_0\) is the net issue proceeds — the cash the firm receives, not the par or market price.
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