№ 8/2015

Fìnansi Ukr. 2015 (8): 88–100

FINANCES OF THE INSTITUTIONAL SECTORS

STETSKO Mykola

The influence of default probability in the rate of spending on borrowed capital

A number of issues related to the influence of the credit risk and the probability of a borrower’s default in the rate of spending on borrowed capital is investigated. The article aims to clarify the key factors influencing the interest rate on borrowed capital, on the one hand, and the rate of spending on the corresponding capital — on the other. It is proved that the substantiation of financial and investment decisions should be based not on an amount of spending on borrowed capital reflected in the financial statements for the relevant period, or on an interest rate fixed in the loan agreement, but on interest costs and borrowed capital. This rate is used to determine the discount rate, which is a key element of investment calculations, calculation of the fair value of assets, valuation of business. It is substantiated that the rate of spending on borrowed capital depends on the contractual interest rate, the value of tax shield, the probability of default of a debtor and the amount of possible losses of creditors in case of default of a borrower. It is found that in case of fixed interest rates on borrowed capital within an increasing probability of default the rate of spending on borrowed capital is reducing. As a result, within other equal circumstancies, discount rate is reducing and the value of a company is increasing, as well as the market value of a debt financial instrument is reducing. At the same time interest rates on borrowed capital are gradually brought into conformity with the values of probability of default. Thus, the latter is the determining factor that affects both the contractual interest rate and the rate of spending on borrowed capital. To reduce interest rates it is necessary to reduce the probability of default parameter through improved financial performance of companies, increasing their informational transparency and using transparent and correct rating systems.

Keywords: borrowed capital, the rate of spending on borrowed capital, the probability of default, credit rating, discount rate, financial expenses.

JEL: G21, G30, G32, G35.

STETSKO M. . The influence of default probability in the rate of spending on borrowed capital / M. . STETSKO // Фінанси України. - 2015. - № 8. - C. 88-100.

Article original in Ukrainian (pp. 88 - 100)

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