The is the interest rate that a firm pays on any new debt financing. Galbraith C

Question

The is the interest rate that a firm pays on any new debt financing. Galbraith Co. can borrow at an interest rate of 9.7% for a period of four years. Its marginal federal-plus-state tax rate is 30%. What is Galbraith's after-tax cost of debt?_____ Galbraith Co. has outstanding 10-year noncallable bonds with a face value of $1,000. These bonds have a current market price of $1,092.79, a coupon rate of 11%, and annual coupon payments. The company faces a tax rate of 30%. If the company wants to issue new debt, what would be a reasonable estimate for its after-tax cost of debt? smallcircle 5.33% smallcircle 7.99% smallcircle 5.99% smallcircle 6.66%

Explanation / Answer

After tax cost of debt is the interest rate that a firm pays on new debt financing

Aftertax cost of debt = before tax cost of debt*(1-tax rate) = 9.7*(1-0.3) = 6.79%

                 K = N          
BOND PRICE= [(Coupon)/(1 + YTM)^k]     +   Par value/(1 + YTM)^N
                   k=1

                    K = 10          
1092.79      = [(11*1000/100)/(1 + YTM/100)^k]     +   1000/(1 + YTM/100)^10
                   k=1

YTM = 9.52%

Aftertax cost of debt = YTM*(1-tax rate) = 9.52*(1-0.3) = 6.66%

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