11:34 AM Ooo Sprint F 91% ezto.mheducation.com C FIN 210 FIN 210 Fall 2015 Tuesd
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11:34 AM Ooo Sprint F 91% ezto.mheducation.com C FIN 210 FIN 210 Fall 2015 Tuesday FINANCE Question 2 (of 6) value 20.00 points Problem 13-5 Cost of Debt (LO2) Micro Spinoffs Inc. issued 20-year debt a year ago at par value with a coupon rate of 8%, paid annually. Today, the debt is selling at $1,100. If the firm's tax bracket is 20%, what is its percentage after-tax cost face value of $1,000. (Do not round intermediate calculations. Enter your answer as a percent rounded to 2 decimal places.) After-tax cost of debt Hints References eBook & Resources Hint #1 Check my work 2015 McGraw-Hill Education. All rights reservedExplanation / Answer
Answer:
Coupon Rate = 8%
Remaining Life = (20-1) = 19 Years
Current Selling Price of Debt (SP) = $1,100
Face Value of Debt = $1,000
Tax Rate = 20%
Annual Interest Amount = $1,000 x 8% = $80
It is assumed that Debt will be redeemed after 19 years at par.
So, the redemption value (RV) = $1,000
Cost of Debt = [Interest (1 – Tax Rate) + (RV – SP)/Life ] / (RV + SP)/2
Cost of Debt = [$80 (1-0.20) + ($1,000 - $1,100)/19] / ($1000 + $1100)/2
Cost of Debt = [$64 + (-$5.263)] / 1050 = $58.737 / $1,050 = 0.05594 or 5.594%
Alternatively we can calculate Cost of Debt as follows
Cost of Debt = Interest (1-Tax Rate) / Current Selling Price x 100
Cost of Debt = $80 (1-0.20) / $1,100 x 100 = $64 / $1,100 x 100 = 5.818% or 5.82%
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