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Union Pacific has 20-year bonds outstanding with a $1 million face value and a 6% semiannual...

Union Pacific has 20-year bonds outstanding with a $1 million face value and a 6% semiannual coupon rate. The current market value of the bonds is $950,000. Union Pacific has a 30% marginal tax rate. What are Union Pacific's pre-tax cost of debt ____ and after tax cost of debt? ___

Expert Solution

Cost of Debt = YTM

Face Value of Debt = 1000

Market Value of Bond = 950

Current Price = 950

Coupon 6%/ 2 = 3%

Maturity = 20 years * 2 = 40

Let's assume the YTM be 6.20%

Value of Bond =

=

= 977.254370318

Now,

Let's assume the YTM be 7%

Value of Bond =

=

= 893.224638295

YTM =

= 6.20% + ((977.254370318 - 950) / (977.254370318 - 950) + (950 - 893.224638295 )) * (7-6.20)

= 6.20% + (27.254370318) / (27.254370318) + (56.775361705)) * 0.80

= 6.20% + (27.254370318/ 84.029732023) * 0.80

= 6.20% + 0.25947359023

= 6.46%

Pre Tax Cost of Debt = 6.46%

After Tax Cost of Debt = 6.46% * (1-0.30) = 4.52%

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jeff jeffy answered 2 years ago

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