Suppose your company needs to raise $48 million and you want to issue 30-year bo

Question

Suppose your company needs to raise $48 million and you want to issue 30-year bonds for this purpose. Assume the required return on your bond issue will be 6 percent, and you’re evaluating two issue alternatives: A semiannual coupon bond with a coupon rate of 6 percent and a zero coupon bond. Your company’s tax rate is 35 percent. Both bonds will have a par value of $1,000.

A1) How many of the coupon bonds would you need to issue to raise the $48 million?

A2) How many of the zeroes would you need to issue?

B1) In 30 years, what will your company’s repayment be if you issue the coupon bonds?

B2) What is the repayment if you issue the zeroes? C) Calculate your company's total aftertax cash flow during the first year for each type of bond (don't include the initial amount raised). Don't forget to adjust the cash flow for taxes. (Coupon Bonds Inflow or Outflow? How much? Zero Coupon Bonds Inflow or Outflow? How much?)

Explanation / Answer

A1. Calculation of number of coupon bonds to be issued:

The required rate and the coupon rate on the bond is same 6%, hence the bond shall be issued at par. Assuming the par value of the bond is $1000.

Hence the Number of bonds to be issued = $48,000,000 / $1000

= 48000 Bonds

A2. Calculation of number of ZERO coupon bonds to be issued:

Price of the zero coupon bond = Par value of the Bond * PVF (30 years , 6%)

= 1000*0.1741

= $174.11

Hence Number of ZERO coupon bonds to be issued = $48,000,000 / 174.11 = 275688

B1) Calculation of company’s repayment for the coupon bonds:

= Par value of bonds

= 48000 bonds * $1000

=$48,000,000

B2) Calculation of company’s repayment for ZERO coupon bonds:

= Par value of bonds

= 275688 bonds * $1000

=$275,688,000

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