1. The Bet-r-Bilt Company has a 5-year bond outstanding with a 4.00 percent coup
ID: 2654264 • Letter: 1
Question
1. The Bet-r-Bilt Company has a 5-year bond outstanding with a 4.00 percent coupon. Interest payments are paid semi-annually. The face amount of the bond is $1,000. This bond is currently selling for 96 percent of its face value. What is the company's pre-tax cost of debt?
8.0 percent
4.0 percent
4.9 percent
2.4 percent
9.6 percent
2. Antonio's is analyzing a project with an initial cost of $37,000 and cash inflows of $25,000 a year for 2 years. This project is an extension of the firm's current operations and thus is equally as risky as the current firm. The firm uses only debt and common stock to finance their operations and maintains a debt-equity ratio of 0.6. The pre-tax cost of debt is 7.4 percent and the cost of equity is 11.2 percent. The tax rate is 34 percent. What is the projected net present value of this project?
$11,829.32
$3,072.67
$7,078.50
$4,671.81
$34,792.13
1. The Bet-r-Bilt Company has a 5-year bond outstanding with a 4.00 percent coupon. Interest payments are paid semi-annually. The face amount of the bond is $1,000. This bond is currently selling for 96 percent of its face value. What is the company's pre-tax cost of debt?
Explanation / Answer
1. Formula to Calculate YTM =
Bond Price = Par Value x Coupon Rate x 1 - (1+ r)-mxn / r + Par Value / (1+r)mxn
Bond Price = $960, Coupon Rate = 4/2 = 2%, m = Frequency = 2, n = Number of Years = 5, r = ?
960 = 1,000 x 0.02 x 1 - (1+ r)-2x5 / r + 1,000 / (1+r)2x5
r = 4.9 percent
So, the correct option is 4.9 Percent
2. Calculation of WACC of Firm:
Cost of Debt = 7.4%
After Tax Cost of Debt = 7.4 x (1-0.34) = 4.884%
Cost of Equity = 11.2%
Proportion of Debt= 0.6 / 1.6 = 37.50%
Proportion of Equity = 100 - 37.50 = 62.50 %
WACC = (Cost of Equity x Proportion of Equity) + (Cost of Debt x Proportion of Debt)
WACC = (11.2 x 0.625) + (4.884 x 0.375)
WACC = 8.8315%
Calculation of NPV:
PV of Inflow =
DF for Year 1 at 8.8315% = 0.91885
PV of Year 1 inflow= 25,000 x 0.91885 = $22,971.25
DF for Year 2 = 0.84429
PV of Year 2 Inflow = 25,000 x 0.84429 = $21,107.25
Total PV = 22,971.25 + 21,107.25 = $44,078.50
NPV = 44,078.50 - 37,000 = $7,078.50
So, the correct Option is $7,078.50
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