Russell Container Corporation has a $2,000 par value bond outstanding with 30 ye
ID: 2682129 • Letter: R
Question
Russell Container Corporation has a $2,000 par value bond outstanding with 30 years to maturity. The bond carries an annual interest payment of $115 and is currently selling for $1,220 per bond. Russell Corp. is in a 30 percent tax bracket. The firm wishes to know what the aftertax cost of a new bond issue is likely to be. The yield to maturity on the new issue will be the same as the yield to maturity on the old issue because the risk and maturity date will be similar.Assume that the yield on the bonds goes up by 1 percentage point and that the tax rate is now 39 percent.
What is the new after-tax cost of debt? (Hint: Use the approximate yield to maturity to compute after-tax cost of debt) (Round your answer to 2 decimal places. Omit the "%" sign in your response.)
Cost of debt %
Explanation / Answer
Bond price = sum of NPV of future payments 1220=(115/YTM)(1-1/(1+YTM)^30)+2000/(1+YTM)^30 Solve for YTM, YTM= 9.83% Since new YTM goes up1% New after tax cost of debt= (YTM+1%) (1-new tax rate) = (10.83%)(1-0.39) = 6.61%
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