Question

Cost of debt using the approximation formula For the following $1,000-par-value bond, assuming annual interest payment and a 29% tax rate, calculate the after-tax cost to maturity using the approximation formula. Life 15 years Underwriting fee $15 Discount (-) or premium (+) $50 Coupon interest rate 11% The after-tax cost of financing using the approximation formula is %. (Round to two decimal places.)

Answer 1

Bond Par Value, (FV) = $1,000

Bond Price, (PV) = 1,000 + 50 - 15 = $1,035

Time to Maturity, N = 15 years

Coupon Payment = $110

using Approximation formula,

YTM = [C + (F - P)/n]/[(F + P)/2]

YTM = [110 - 35/15]/[1,035/2]

YTM = 10.58%

After-tax cost of financing = (1 - 0.29)(0.1058)

After-tax cost of financing = 7.51%