Cost of debt (K_d) should represent the company’s current marginal borrowing cost - the rate it would pay today on a new facility or instrument, not the blended historical average on its existing debt book.
In Saudi practice, corporate debt is typically priced as SAIBOR plus a credit spread for bank facilities, or expressed as a yield or spread in the sukuk market.
Approach 1: Facility Pricing (SAIBOR + Spread)
When a bank facility is priced as a floating rate over SAIBOR:
K_d ≈ SAIBOR + Credit Spread
Include commitment fees or recurring facility charges only if they are genuinely debt-like in nature. Keep the benchmark rate current - use the relevant SAIBOR tenor at the valuation date.
Approach 2: Sukuk Market Pricing
If the issuer has publicly priced sukuk, use the yield to maturity or the spread over a benchmark at the time of pricing. Adjust for seniority differences and tenor mismatches versus the valuation model horizon.
Label the rate as indicative unless you are sourcing live market pricing at the valuation date.
Approach 3: Synthetic Rating
When observable pricing is not available, derive a spread from credit ratios and map to a rating band:
K_d ≈ R_f + Spread(synthetic)
Use a spread range appropriate to the implied rating band, and show sensitivity. Presenting a single synthetic spread without a range implies false precision.
Tax and Zakat: The Critical Adjustment
How K_d feeds into WACC depends on the entity’s tax position:
- Income tax payer → use after-tax cost of debt: K_d × (1 − t)
- Zakat payer → use pre-tax K_d as the conservative default, unless a specific interest tax shield is clearly documented
This distinction matters. Failing to adjust for Zakat is a common source of WACC understatement in Saudi models. See the companion article on Taxes and Zakat in WACC for the full treatment.
This article is for educational purposes only. It explains valuation concepts and modeling choices. It is not investment advice, a recommendation, or a financial promotion. Examples use illustrative inputs. Verify all data using primary sources and consult an appropriately licensed professional before making financial decisions.
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Abdul Gaffar Mohammed, CFA
Treasury & Investment Professional