Oberon, Inc. has a $20 million (face value) 10-year bond issue selling for 97 percent of par that pays an annual coupon of 8.25 percent. What would be Oberon's before-tax component cost of debt? (Round your answer to 2 decimal places.) Cost of debt %
Oberon, Inc. has a $20 million (face value) 10-year bond issue selling for 97 percent of par that pays an annual coupon of 8.25 percent. What would be Oberon's before-tax component cost of debt? (Round your answer to 2 decimal places.) Cost of debt %
Essentials Of Investments
11th Edition
ISBN:9781260013924
Author:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Publisher:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Chapter1: Investments: Background And Issues
Section: Chapter Questions
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![**Understanding Bond Cost Calculation**
Oberon, Inc. has issued a 10-year bond with a face value of $20 million. The bond is currently priced at 97% of its par value and offers an annual coupon rate of 8.25%.
**Question:**
What is Oberon's before-tax component cost of debt? **(Round your answer to 2 decimal places.)**
**Calculation Required:**
To calculate the before-tax component cost of debt, follow these steps:
1. **Annual Coupon Payment:**
- The bond's annual coupon rate is 8.25%.
- Therefore, the annual coupon payment = 8.25% of $20 million = 0.0825 * $20,000,000 = $1,650,000.
2. **Current Bond Price:**
- The bond is selling for 97% of its par value.
- Current bond price = 97% of $20 million = 0.97 * $20,000,000 = $19,400,000.
3. **Before-Tax Cost of Debt Formula:**
- The formula to compute the before-tax cost of debt \(Kd\) is:
\[ Kd = \frac{C + \frac{(F - P)}{n}}{(F + P)/2} \]
Where:
- \( C \) = Annual coupon payment
- \( F \) = Face value of the bond
- \( P \) = Current bond price
- \( n \) = Number of years to maturity
4. **Plugging in the Values:**
- \( C = $1,650,000 \)
- \( F = $20,000,000 \)
- \( P = $19,400,000 \)
- \( n = 10 \)
5. **Simplification and Calculation:**
\[ Kd = \frac{1,650,000 + \frac{(20,000,000 - 19,400,000)}{10}}{\frac{(20,000,000 + 19,400,000)}{2}} \]
\[ Kd = \frac{1,650,000 + 60,000}{19,700,000} \]
\[ Kd = \frac{1,710,000}{19,](/v2/_next/image?url=https%3A%2F%2Fcontent.bartleby.com%2Fqna-images%2Fquestion%2F42077dd4-5a93-4885-bc7c-dca1203ecd7a%2F0e57554c-431a-49fe-8b1a-5be7d9145e65%2Frt6ivw_processed.png&w=3840&q=75)
Transcribed Image Text:**Understanding Bond Cost Calculation**
Oberon, Inc. has issued a 10-year bond with a face value of $20 million. The bond is currently priced at 97% of its par value and offers an annual coupon rate of 8.25%.
**Question:**
What is Oberon's before-tax component cost of debt? **(Round your answer to 2 decimal places.)**
**Calculation Required:**
To calculate the before-tax component cost of debt, follow these steps:
1. **Annual Coupon Payment:**
- The bond's annual coupon rate is 8.25%.
- Therefore, the annual coupon payment = 8.25% of $20 million = 0.0825 * $20,000,000 = $1,650,000.
2. **Current Bond Price:**
- The bond is selling for 97% of its par value.
- Current bond price = 97% of $20 million = 0.97 * $20,000,000 = $19,400,000.
3. **Before-Tax Cost of Debt Formula:**
- The formula to compute the before-tax cost of debt \(Kd\) is:
\[ Kd = \frac{C + \frac{(F - P)}{n}}{(F + P)/2} \]
Where:
- \( C \) = Annual coupon payment
- \( F \) = Face value of the bond
- \( P \) = Current bond price
- \( n \) = Number of years to maturity
4. **Plugging in the Values:**
- \( C = $1,650,000 \)
- \( F = $20,000,000 \)
- \( P = $19,400,000 \)
- \( n = 10 \)
5. **Simplification and Calculation:**
\[ Kd = \frac{1,650,000 + \frac{(20,000,000 - 19,400,000)}{10}}{\frac{(20,000,000 + 19,400,000)}{2}} \]
\[ Kd = \frac{1,650,000 + 60,000}{19,700,000} \]
\[ Kd = \frac{1,710,000}{19,
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