"Corporate Finance":Debt rating method
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Questions 1:
A company issues new 20-year $1,000 bonds with a coupon rate of 6.2% payable semiannually at an issue price of $1,030.34. Assuming a tax rate of 28%, the firm’s annual after-tax cost of debt (%) is closest to:
A 、5.94.
B 、4.28.
C、 4.46.
Questions 2:
Using the debt-rating approach to find the cost of debt is most appropriate when market prices for a company’s debt are:
A、 below par value.
B 、unreliable.
C、 stable.
B is correct. The annual after-tax cost of debt is the after tax annual yield to maturity (YTM). Find the YTM by using a financial calculator as follows:
Therefore, the associated after-tax value = 0.0428 = 0.0594 × (1 – 0.28).
A is incorrect because it is the yield to maturity.
C is incorrect because it is based on the coupon rate of 0.0620 annually
B is correct. The debt-rating approach is used when the market prices for debt are unreliable or nonexistent.
A is incorrect because prices below par value is not an indicator of a price being unreliable.
C is incorrect because stable prices imply reliable prices.
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