Question

The following is a problem I tried to solve but got the wrong answer:

Himiny's Cricket Farm Issued a 24-year, 16 percent semiannual bond 4 years ago. The bond currently sells for 96 percent of its face value. The company's tax rate is 31 percent. What is the pretax cost of debt? (Do not round intermediate calculations. Enter your answer as a percentage, omit the "%" sign in your response, and round your answer to 2 decimal places. For example, 0.12345 or 12.345% should be entered as 12.35.)

You Answered 10.33

Correct Answers 16.7 (with margin: 0.0)

I need a CORRECT solution with STEP-BY-STEP answer for the following:

Himiny's Cricket Farm Issued a 24-year, 15 percent semiannual bond 2 years ago. The bond currently sells for 95 percent of its face value. The company's tax rate is 34 percent. What is the pretax cost of debt?

Answer 1

Bond Tenure =24 years and Tenure Remaining = 22 years or 44 half years, Coupon Rate =15% per annum payable semi-annually, Bond Market Value = $ 950 assuming a par value of $1000

Semi-Annual Coupon = 0.15 x 0.5 x 1000 = $ 75

Let the half yearly YTM be R

Therefore, 950 = 75 x (1/R) x [1-{1/(1+R)^(44)}] + 1000 / (1+R)^(44)

Using EXCEL's Goal Seek Function to solve the above equation we get:

R = 7.9099 % per half year

Therefore, Yield to Maturity = Pre-Tax Cost of Debt = 2 x R = 2 x 7.9099 = 15.8198 % or 15.82 % approximately.

NOTE: Tax Rate = 34 %. Then, Post-Tax Cost of Debt = 15.82 x (1-0.34) = 10.44 % per annum