Olympic Sports has two issues of debt outstanding. One is a 9% coupon bond with

Question

Olympic Sports has two issues of debt outstanding. One is a 9% coupon bond with a face vale of $32 million, a maturity of 15 years, and a yield to maturity of 10%. The coupons are paid annually. The other bond issue has a maturity of 20 years, with coupons also paid annually, and a coupon rate of 10%. The face value of the issue is $37 million, and the issue sells for 92% of par value. The firm's tax rate is 35%.

What is the before tax cost of debt for Olympic?

What is the after tax cost of debt for Olympic?

Explanation / Answer

Before tax cost of debt: As the firm has two bond issues, the weighted average cost should be taken. 9% Bond: Before tax cost = YTM = 9%. Price of the bond = 1000/1.1^15+90*(1.1^15-1)/(0.1*1.1^15) = $ 923.94 10% Bond: YTM of the Bond (Using an online calculator) = 11% Weighted average before tax cost of debt: Market Value        ($ million) Weight Before tax cost Weighted average cost 9% Bond (32*923.94) 29566.08 0.4648 9.00 4.18 10% Bond (37*920) 34040.00 0.5352 11.00 5.89 63606.08 10.07 Before tax cost of debt = 10.07% After tax cost of debt = 10.07*(1-0.35) = 6.55%

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