Advance, Inc., is trying to determine its cost of debt. The firm has a debt issu

Question

Advance, Inc., is trying to determine its cost of debt. The firm has a debt issue outstanding with 12 years to maturity that is quoted at 110 percent of face value. The issue makes semiannual payments and has a coupon rate of 10 percent annually.

What is Advance's pretax cost of debt? (Do not round intermediate calculations and round your answer to 2 decimal places. (e.g., 32.16))

If the tax rate is 35 percent, what is the aftertax cost of debt? (Do not round intermediate calculations and round your answer to 2 decimal places. (e.g., 32.16))

Advance, Inc., is trying to determine its cost of debt. The firm has a debt issue outstanding with 12 years to maturity that is quoted at 110 percent of face value. The issue makes semiannual payments and has a coupon rate of 10 percent annually.

Explanation / Answer

Face Value = 100

Current Value = 110

Coupon = 5 per semiannual each for 12 years (24 such coupon)

Let r be the rate of return

Face Value = 5/(1+r) + 5/(1+r)^2 + .. + 105/(1+r)^24

110 = 5/(1+r) + 5/(1+r)^2 + .. + 105/(1+r)^24

r = 4.3%

Therefore, pretax cost of debt = 2*4.3% = 8.6%

Aftertax cost of debt = 0.65*8.6% = 5.59%

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