Calculate the pre-tax cost of debt for a company
What is the firm's pre-tax cost of debt?
To calculate the pre-tax cost of debt, we need to use the bond's current price, coupon rate, and time to maturity. Can you help us calculate this?
Answer:
The pre-tax cost of debt for the company is 5.91%.
To calculate the pre-tax cost of debt, we first need to break down the information given in the question. The bonds were issued 5 years ago with a 20-year maturity period and a 6.0% semiannual coupon rate. The current bond price is quoted at 101.5% of the face value.
Now, let's calculate the pre-tax cost of debt using the formula:
Cost of Debt = (Annual Interest Payment / Bond Price) * 100
First, we calculate the semiannual interest payment:
Semiannual Interest Payment = (Coupon Rate * Face Value) / 2
Given that the Face Value is $1,000:
Semiannual Interest Payment = (0.06 * $1,000) / 2 = $30
Then, we find the Annual Interest Payment:
Annual Interest Payment = $30 * 2 = $60
Next, we calculate the Bond Price:
Bond Price = 101.5% * $1,000 = $1,015
Finally, we determine the pre-tax cost of debt:
Cost of Debt = ($60 / $1,015) * 100 = 5.91%
Therefore, the firm's pre-tax cost of debt is 5.91%.