Question

The outstanding debt of Berstin Corp. has ten years to maturity, a current yield of 9%, and a price of $90. What is the pretax cost of debt if the tax rate is 40%. Note: The current yield of a bond is its annual coupon divided by its price. O A. 7.77% O B. 9% O c. 5.82% OD. 9.71%

Answer 1

Annual Coupon / Price = 0.09

Annual Coupon = 0.09 * 90 = 8.10

Number of payments = 10

Price =90

Face value = 100

We know that,

Price of a bond = Present value of all the annual coupon and face value discounted at ytm

90 = 8.1/(1+ytm)^1 + 8.1/(1+ytm)^2 + 8.1/(1+ytm)^3 + 8.1/(1+ytm)^4 + 8.1/(1+ytm)^5 + 8.1/(1+ytm)^6 + 8.1/(1+ytm)^7 + 8.1/(1+ytm)^8 + 8.1/(1+ytm)^9 + 8.1/(1+ytm)^10 + 100/(1+ytm)^10

We will use heat and trial method to get that value for which above equation satisfy.

YTM = 9.71% Answer

Or using Financial Calculator:

N = 10

PV = -90

FV = 100

PMT = 8.1

CPT I/Y

I/Y = YTM = 9.71% Answer

The option D is correct.

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