Jiminy\'s Cricket Farm issued a 10-year, 8 percent semiannual bond 3 years ago.

Question

Jiminy's Cricket Farm issued a 10-year, 8 percent semiannual bond 3 years ago. The bond currently sells for 96 percent of its face value. The company's tax rate is 35 percent. Suppose the book value of the debt issue is $50 million. In addition, the company has a second debt issue on the market, a zero coupon bond with 10 years left to maturity; the book value of this issue is $30 million, and the bonds sell for 55 percent of par. What is the company's total book value of debt? (Enter your answer in dollars, not millions of dollars, i.e. 1, 234,567.) Total book value $ What is the company's total market value of debt? (Enter your answer in dollars, not millions of dollars, i.e. 1, 234,567.) Total market value $ What is your best estimate of the aftertax cost of debt? (Round your answer to 2 decimal places, (e.g., 32.16)) Cost of debt___________%

Explanation / Answer

What is the total book value of debt?

Book Value of Debt

= $50,000,000 + 30,000,000

= $80,000,000

What is the total market value of debt?

Market Value of Debt

= 0.96($50,000,000) + .55($30,000,000)

= $ 48,000,000 + $16,500,000

= $ 64,500,000

What is the after tax cost of debt?

PO= Current Price = $1000 x 96%= $960

Coupon Amount= 1,000 x 8% x 6/12=$40

No of years left= 10-3 = 7 years = ie 14 periods

P0 = $960 = $40(PVIFAR%,14) + $1,000(PVIFR%,14)

R = 4.385

YTM per Year= 4.385 x 2= 8.87

YTM = 8.87%

RD = 8.77(1 – 0.35)

RD= 8.77 x 0.65

RD = 0.5700, or 5.70%

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