Question

GIMP Inc., is trying to determine its cost of debt. The firm has a debt issue outstanding with 2 years to maturity that is quoted at 107.1 percent of face value. The issue makes annual payments and has an embedded cost (coupon rate) of 8 percent annually. What is the firm's pretax cost of debt? (Enter answer in percents.)

Answer 1

K = N

Bond Price =∑ [(Annual Coupon)/(1 + YTM)^k]     +   Par value/(1 + YTM)^N

k=1

K =2

1071 =∑ [(8*1000/100)/(1 + YTM/100)^k]     +   1000/(1 + YTM/100)^2

k=1

YTM% = 4.22 = pretax cost of debt