Jiminy\'s Cricket Farm issued a 30-year, 7.4 percent semiannual bond 7 years ago
ID: 2723994 • Letter: J
Question
Jiminy's Cricket Farm issued a 30-year, 7.4 percent semiannual bond 7 years ago. The bond currently sells for 89 percent of its face value. The book value of this debt issue is $100 million. In addition, the company has a second debt issue, a zero coupon bond with 10 years left to maturity; the book value of this issue is $59 million, and it sells for 57.5 percent of par. The company’s tax rate is 35 percent.
What is the total book value of debt? (Do not round intermediate calculations. Enter your answer in dollars, not millions of dollars (e.g., 1,234,567).)
What is the total market value of debt? (Do not round intermediate calculations. Enter your answer in dollars, not millions of dollars (e.g., 1,234,567).)
What is the aftertax cost of the 7.4 percent coupon bond? (Do not round intermediate calculations. Enter your answer as a percentage rounded to 2 decimal places (e.g., 32.16).)
What is the aftertax cost of the zero coupon bond? (Do not round intermediate calculations. Enter your answer as a percentage rounded to 2 decimal places (e.g., 32.16).)
What is the aftertax cost of debt? (Do not round intermediate calculations. Enter your answer as a percentage rounded to 2 decimal places (e.g., 32.16).)
Jiminy's Cricket Farm issued a 30-year, 7.4 percent semiannual bond 7 years ago. The bond currently sells for 89 percent of its face value. The book value of this debt issue is $100 million. In addition, the company has a second debt issue, a zero coupon bond with 10 years left to maturity; the book value of this issue is $59 million, and it sells for 57.5 percent of par. The company’s tax rate is 35 percent.
Explanation / Answer
Answer 1.
The Book Value of Debt is the total par value of all outstanding debt, so
Book Value = 100,000,000 + 59,000,000
= $159,000,000
Answer 2.
To find the market value of debt, we find the price of the bonds and multiply by the numbers of bonds.
Market Value = 0.89 * 100,000,000 + 59,000,000 * 0.575
= $122,925,000
Answer 3.
The YTM of the coupon bond is
890 = 37 / i * (1 - (1/(1+i)^46) + 1000 / (1+i)^46
i = 4.248%
YTM = 2 * 4.248 = 8.496%
The after-cost of debt = (1-0.35) * 8.496
= 5.52%
Answer 4.
YTM to he zero coupon bond is
575 = 1000 / (1+i)^20
r = 0.0281 = 2.81%
YTM = 2 * 2.81% = 5.61%
So, the after tax cost of the zero coupon bond = 5.61% * (1 - 0.35)
= 3.65%
Answer 4.
The after tax cost of debt for the company is the weighted average of the aftertax cost of debt for all outstanding bond issue. We need to use the market value weights of the bonds. The total aftertax cost of debt for the company is :
= 0.0552*[0.890*100,000,000/122,925,000] + 0.0365 * [0.575*59,000,000/122,925,000]
= 0.0501 = 5.01%
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