Before-tax cost of debt and after-tax cost of debtPersonal Finance ProblemDavid

Question

Before-tax cost of debt and after-tax cost of debtPersonal Finance ProblemDavid Abbot is interested in purchasing a bond issued by Sony. He has obtained the following information on the security:

Sony Bond

Par value $1000

5.5%

20%

$920

Years to maturity 10

Answer the following questions:

a.Calculate the before-tax cost of the Sony bond using the bond's yield to maturity (YTM).

b.Calculate the after-tax cost of the Sony bond given the corporate tax rate.

a.

The before-tax cost of the Sony bond using the bond's yield to maturity (YTM) is______%. (Round to two decimal places.)

b.

The after-tax cost of the Sony bond given the corporate tax rate is______%. (Round to two decimal places.)

Sony Bond

Par value $1000

5.5%

20%

$920

Years to maturity 10

Explanation / Answer

a) Calculation of before tax cost of sony bond: Interest 55 Face value(assumed) $1000 Bond price $920 Years to maturity 10 Yield= Interest+ (Face value-Bond price)/years to maturity       (face value + bond price)/2 55+(1000-920)/10 (1000+920)/2 6.56% Yield to maturity is 6.56% (b) After tax cost of debt= 6.56(1-0.20)=5.25%

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