Waller, Inc., is trying to determine its cost of debt. The firm has a debt issue outstanding with 20 years to maturity twith a current price of $854. The issue makes semiannual payments and has coupon rate of 5 percent. If the tax rate is 0.39, what is the aftertax cost of debt

The after-tax cost of debt : 3.90%.

Explanation:

The semi-annual coupon = 1,000 x 5% / 2 = $25.

The before-tax cost of debt, denoted as i, is the yield to maturity of the company's debt, which is calculated as below:

(25/i) x [1 - (1+i) ^-40] + 1,000 / (1+i) ^40 = 854 i = 3.147%.

=> Because the debt is semi-annual compounded, we have the: Effective annual rate = Before-tax cost of debt = (1 + 3.147%) ^2 - 1 = 6.39%.

=> After tax cost of debt = Before tax cost of debt x (1 - tax rate) = 6.39% x (1 - 0.39) = 3.90%.

So, the answer is 3.90%.