Question

A firm has a 28% tax rate and has decided to issue $250 million of 12-year debt. If it makes a U.S. public offering, the offering would carry an 8.5% coupon, paid semiannually, and issuing would cost $2 million. What is the after-tax cost (APY) of borrowing?

Answer 1

flotation cost = issue cost/amount issued =2/250= 0.008

Cost of debt

K = Nx4

Bond Price *(1-flotation %) =∑ [(Quarterly Coupon)/(1 + YTM/4)^k]     +   Par value/(1 + YTM/4)^Nx4

k=1

K =12x4

1000*(1-0.008) =∑ [(8.5*1000/400)/(1 + YTM/400)^k]     +   1000/(1 + YTM/400)^12x4

k=1

YTM = 8.6075764778

After tax cost of debt = cost of debt*(1-tax rate)

After tax cost of debt = 8.6075764778*(1-0.28)

6.2%