On November 1, 2020, FastCare sold $5,000,000 of three-year bonds for $4,750,325. From the proceeds, the company paid accounting fees of $50,000. Interest of 5% is payable annually. What is the effective rate of interest? Round to two decimal places.
A.4.69%
B.3.63%
C.7.30%
D.5.00%
Solution:
Net proceeds from issue of bond = $4,750,325 - $50,000 = $4,700,325
Annual interest payment = $5,000,000*5% = $250,000
Let effective interest rate = i
At effective interest rate, present value of interest and princiapl payment is equal to proceeds from bonds.
Period | Cash Flow | Effective Interest Rate (i) |
0 | 4700325 | 7.30% |
1 | -250000 | |
2 | -250000 | |
3 | -5250000 |
Hence option C is correct.
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