Airborne Airlines nc has a 1000 par value bond outstanding w

Airborne Airlines nc. has a $1.000 par value bond outstanding with 20 years to maturity. The bon car es an annua interest payment of 86 and s current se g ?? g A borne sna 5 per cent a racket. The firm wishes to know what the aftertax cost of a new bond issue is likely to be. The yield to maturity on the new issue will be the same as the yield to maturity on the old issue because the risk and maturity date will be similar. a. Compute the yield to maturity on the old issue and use this as the yield for the new issue. (Do not round intermediate calculations. Input your answer as a percent rounded to 2 decimal places.) Yield on new issue b. Make the appropriate tax adjustment to determine the aftertax cost of debt. (Do not round intermediate calculations. Input your answer as a percent rounded to 2 decimal places.) Aftertax cost of debt

Solution

Answer a.

Face Value = $1,000
Current Price = $900
Annual Coupon = $86
Time to Maturity = 20 years

Let annual interest rate be i%

$900 = $86 * PVIFA(i%, 20) + $1,000 * PVIF(i%, 20)

Using financial calculator:
N = 20
PV = -900
PMT = 86
FV = 1000

I = 9.76%

So, yield on new issue of bonds is 9.76%

Answer b.

Before-tax Cost of Debt = 9.76%

After-tax Cost of Debt = 9.76% * (1 - 0.35)
After-tax Cost of Debt = 6.34%