Question

Bond Yield and After-Tax Cost of Debt A company's 8% coupon rate, semiannual payment, $1,000 par value bond that matures in 20 years sells at a price of $604.42. The company's federal-plus-state tax rate is 30%. What is the firm's after-tax component cost of debt for purposes of calculating the WACC? (Hint: Base your answer on the nominal rate.) Round your answer to two decimal places. %

Answer 1

Answer:

9.73%

Explanation:

For computing the after tax cost of debt first we have to determine the cost of debt by applying the RATE formula i.e. to be shown in the attachment below:

Given that,  

Present value = $604.42

Future value or Face value = $1,000  

PMT = 1,000 × 8% ÷ 2 = $40

NPER = 20 years × 2 = 40 years

The formula is shown below:  

= Rate(NPER;PMT;-PV;FV;type)  

The present value come in negative  

So, after solving this,  

1. The pretax cost of debt is 6.95% × 2 = 13.9%

2. And, the after tax cost of debt would be

= Pretax cost of debt × ( 1 - tax rate)

= 13.9% × ( 1 - 0.30)

= 9.73%