I\'m not quite sure what to do with part A of this question. I\'m not sure how t

Question

I'm not quite sure what to do with part A of this question. I'm not sure how to use the formula and/or (preferrable) the TI BA II Plus in this regard. Here's the question:

Avicorp has a $10.7 million debt issue outstanding, with a 5.9% coupon rate. The debt has semi-annual coupons, the next coupon is due in six months, and the debt matures in five years. It is currently priced at 93% of par value.

a. What is Avicorp's pre-tax cost of debt? Note: Compute the effective annual return.

b. If Avicorp faces a 40% tax rate, what is its after-tax cost of debt?

Note: I looked at the sample solution, step-by-step, but I wasn't sure how they got the answer for part a.

Explanation / Answer

Hi,

Please find the answer as follows:

Nper = 5*2 = 10

PMT = 1000*5.9%*1/2 = 29.5

FV = 1000

PV = 1000*93% = 930

Rate = ?

Pre Tax Cost of Debt = Rate(Nper,PMT,PV,FV) = Rate(10,29.5,-930,1000)*2 = 7.609% or 7.61%

After Tax Cost of Debt = 7.61%*(1-Tax Rate) = 7.61*(1-.40) = 4.566% or 4.57%

Thanks.

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