Question

Great Lakes Packing has two bond issues outstanding. The first issue has a coupon rate of 3.52 percent, a par value of $1,000 per bond, matures in 3 years, has a total face value of $3.7 million, and is quoted at 103 percent of face value. The second issue has a coupon rate of 6.02 percent, a par value of $2,000 per bond, matures in 22 years, has a total face value of $8.0 million, and is quoted at 96 percent of face value. Both bonds pay interest semiannually. The company's tax rate is 35 percent. What is the firm's weighted average aftertax cost of debt?

Answer #1

For First Bond,

Coupon Rate = 3.52% semi-annually

Bond Par Value = $1,000

Time to Maturity = 3 years

Calculating YTM,

I = [FV = 1,000, PV = 1,030, T = 6, PMT = 17.6]

I = 2.48%

Market Value = (3,700,000/1,000)(1,030) = 3,811,000

For second Bond,

Coupon Rate = 6.02%

Bond Par Value = $2,000

Time to Maturity = 22 years

Calculating YTM,

I = [FV = 2,000, PV = 1,920, T = 44, PMT = 60.2]

I = 6.36%

Market Value = (8,000,000/2,000)(1,920) = 7,680,000

WACC = (1 - 0.35)[(3,811,000/(3,811,000 + 7,680,000)(0.0248)) + (7,680,000/(3,811,000 + 7,680,000))(0.0636)]

WACC = (0.65)(0.00823 + 0.042507)

WACC = 3.30%

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