A corporate bond has a face value of $1,000 and a coupon rate of 9.5%. The bond matures in 12 years and has a current market price of $1,100. If the corporation sells more bonds it will incur flotation costs of $48 per bond. If the corporate tax rate is 35%, what is the after-tax cost of debt capital

Question

Allan Farmer

Business

14 February, 01:43

A corporate bond has a face value of $1,000 and a coupon rate of 9.5%. The bond matures in 12 years and has a current market price of $1,100. If the corporation sells more bonds it will incur flotation costs of $48 per bond. If the corporate tax rate is 35%, what is the after-tax cost of debt capital

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Bree · Answer 1

5.71%

Explanation:

The after tax cost of debt=pretax cost of debt * (1-t)

where t is the tax rate of 35% or 0.35

pretax cost of debt=yield to maturity

The yield to maturity can be determined using rate formula in excel as below:

=rate (nper, pmt,-pv, fv)

nper is the number of coupon interest payable by the bonds i. e 12 coupons in 12 years

pmt is the annual coupon=$1000*9.5%=$95

pv is the current market price-flotation cost=$1,100-$48=$1052

fv is the face value of $1000

=rate (12,95,-1052,1000) = 8.78%

After tax cost of debt=8.78% * (1-0.35) = 5.71%