Question

Airborne airlines Inc. has a $1000 par value bond outstanding with 20 years to maturity. The bomb carries an annual interest payment of $106 and is currently selling for $860. airborne is in a 40% tax bracket. The firm wishes to know what the after-tax cost of a new bond issue is likely to be. The yield to maturity on the issue will be the same as the yield to maturity on the old issue because the risk immaturity date will be similar.

A. Compute the yield to maturity on their own issue and use the yield for the new issue. Answer in a percentage.

B. Make the appropriate tax adjustment to determine the after-tax cost of debt. Answer in a percentage.

Answer 1

Using financial calculator; Inputs

FV = 1000; N= 20 ; PMT =106; PV = -860

Find I/Y which is the YTM as 12.54%

In excel we can find the YTM using rate function as per formula shown in the image.

After tax cost of debt = YTM*(1-Tax)

=12.54%*(1-0.4)

=7.52%