Question

Easy Slider Inc. sold a 15-year $1,000 face value bond with a 10% coupon rate. Interest is paid annually. After flotation costs, Easy Slider received $928 per bond. Compute the after-tax cost of debt for these bonds if the firm's marginal tax rate is 40%?

Answer 1

6.6%

Explanation:

We find the cost of the bond. Yield to maturity is the yield for bond holder but cost for the issuer like Easy Slider.

Formula is

P=CP(1-(1+x)^-n)/x + FV/(1+x)^n

where P is the price of bond in the market. So, the selling price of Easy Slider Inc bond is 928

CP= coupon payment. Here, CP is 10% of 1000. So, $100

FV= Face value. Here, FV is $1000

n= maturity of the bond. Here, n=15

x= cost of the bond before tax

putting the value in the equation

928=100(1-(1+x)^-15)/x + 1000/(1+x)^15

solving for x, we get 0.1100

Now, if we find out after tax then

0.1100(1-T)= After tax cost

0.1100(1-0.4)

0.066 or 6.66%