Question

The FIN340 Company bonds are currently trading at 101% of par (Par Value is $1,000) with exactly 15 years remaining until maturity and a 5.6% coupon rate. The company's tax rate is 21%. What is the company's After-Tax Cost of Debt?

Answer 1

Answer: Calculation of after tax cost of debt
Step 1: Calculation of Before tax Cost of debt using interpolation technique
Formula =
Cost of debt =	Lower rate +	Price at lower rate - Current price	x (Higher rate - Lower rate)
		Price at lower rate - Price at higher rate
Price=	Present value of Cash inflows
Current price	1010.00
Present value at lower rate   =	6%			Present value at higher rate   =	7.00%
Year	Cash Inflows	Present value factor @ 5.00%	Present value of cash inflows		Year	Cash Inflows	Present value factor @ 5.60%	Present value of cash inflows
1	56.00	0.95238	53.33		1	56.00	0.94697	53.03
2	56.00	0.90703	50.79		2	56.00	0.89675	50.22
3	56.00	0.86384	48.37		3	56.00	0.84920	47.56
4	56.00	0.82270	46.07		4	56.00	0.80416	45.03
5	56.00	0.78353	43.88		5	56.00	0.76152	42.65
6	56.00	0.74622	41.79		6	56.00	0.72113	40.38
7	56.00	0.71068	39.80		7	56.00	0.68289	38.24
8	56.00	0.67684	37.90		8	56.00	0.64668	36.21
9	56.00	0.64461	36.10		9	56.00	0.61239	34.29
10	56.00	0.61391	34.38		10	56.00	0.57991	32.47
11	56.00	0.58468	32.74		11	56.00	0.54916	30.75
12	56.00	0.55684	31.18		12	56.00	0.52004	29.12
13	56.00	0.53032	29.70		13	56.00	0.49246	27.58
14	56.00	0.50507	28.28		14	56.00	0.46634	26.12
15	1056.00	0.48102	507.95		15	1056.00	0.44161	466.34
		Total	1062.28				Total	1000.00
Price at higher rate	1062.28				Price at higher rate	1000.00
Cost of debt =	5% +	52.2779	x (5.60 - 5)%
		62.2779
Cost of debt =	5% +	0.8394	*0.60%
Cost of debt =	5% +	0.5037	%
Before Cost of debt =	5.50%	(Answer)
Step 2
After tax cost of debt =	5.50% x (1-0.21)
		5.50% x 0.79
		4.35% (Answer)