You need to raise $1,000,000 to buy a dam that will provide energy to your town. Your tax rate is 40%. You would like to finance the transaction by issuing 20-year bonds at a 8% coupon rate, payable annually. (a) What is your before-tax and after-tax "cost of money" (taking into account that the coupon payments on the bonds are tax-deductible, but not the repayment of principal in year 20), if the bonds sell for face value? Briefly discuss your results. Solution: before-tax: 8%, after-tax: 4.8% per year. (b) Would this financing option be good enough to consider if your minimum acceptable rate of return was 10% ? (c) Would this financing option be good enough to consider if your minimum acceptable rate of return was 4% ? (d) What's the price of the bond at a MARR = 10% per year? Use a before - tax analysis and solve manually (i.e., using factor notation)
You need to raise $1,000,000 to buy a dam that will provide energy to your town. Your tax rate is 40%. You would like to finance the transaction by issuing 20-year bonds at a 8% coupon rate, payable annually. (a) What is your before-tax and after-tax "cost of money" (taking into account that the coupon payments on the bonds are tax-deductible, but not the repayment of principal in year 20), if the bonds sell for face value? Briefly discuss your results. Solution: before-tax: 8%, after-tax: 4.8% per year. (b) Would this financing option be good enough to consider if your minimum acceptable rate of return was 10% ? (c) Would this financing option be good enough to consider if your minimum acceptable rate of return was 4% ? (d) What's the price of the bond at a MARR = 10% per year? Use a before - tax analysis and solve manually (i.e., using factor notation)
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
Problem 1PS
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Transcribed Image Text:You need to raise $1,000,000 to buy a dam that will provide energy to your town. Your tax rate is 40%. You would like
to finance the transaction by issuing 20-year bonds at a 8% coupon rate, payable annually. (a) What is your before-tax
and after-tax "cost of money" (taking into account that the coupon payments on the bonds are tax-deductible, but not
the repayment of principal in year 20), if the bonds sell for face value? Briefly discuss your results. Solution: before-tax:
8%, after-tax: 4.8% per year. (b) Would this financing option be good enough to consider if your minimum acceptable
rate of return was 10% ? (c) Would this financing option be good enough to consider if your minimum acceptable rate
of return was 4% ? (d) What's the price of the bond at a MARR = 10% per year? Use a before - tax analysis and solve
manually (i.e., using factor notation)
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