Question

A company that plans to finance a new investment with a five-year bond will pay an annual
coupon rate of 18% on a nominal value of $ 1,000. However, at the time of issuance, there
was less expected demand and the average bond price was 923.50TL. According to this,
what is the actual borrowing cost of the firm?

Answer 1

FV = 1000

Price of bond = 923.50

Maturity = 5 years

Coupon Amount = 0.18 * 1000 = 180

We know that,

Price of bond = Present value of all coupons and face value discounted at cost of borrowing.

923.50 = 180/(1+ cost of borrowing.)^1+ 180/(1+ cost of borrowing.)^2 + 180/(1+ cost of borrowing.)^3 + 180/(1+ cost of borrowing.)^4 + 180/(1+ cost of borrowing.)^5 + 1000/(1+ cost of borrowing.)^5

We will use heat and trial method to get that value for which above equation satisfy.

Cost of borrowing = 20.59% Answer

OR

We cab also use financial calculator for the same:

FV = 1000

PV = -923.50

N = 5

PMT = 180

CPT I/Y

Cost of borrowing = 20.59% Answer