ABC Incorporated's 8% coupon bonds, with six years to maturity, are trading at 112. Theapproximate cost of new debt for the firm is 5.7%.

Question

Quizplus · Accepted Answer

The cost of new debt is the yield to maturity on a new bond issue. The yield to maturity is the annual rate of return an investor would receive if they held the bond until maturity. The yield to maturity can be calculated using the following formula:```YTM = (C + (FV - PV) / N) / ((FV + PV) / 2)```where:* YTM is the yield to maturity* C is the annual coupon payment* FV is the face value of the bond* PV is the present value of the bond* N is the number of years to maturityIn this case, the annual coupon payment is $80 (8% x $1,000), the face value of the bond is $1,000, the present value of the bond is $1,120, and the number of years to maturity is 6. Plugging these values into the formula, we get:```YTM = (80 + (1,000 - 1,120) / 6) / ((1,000 + 1,120) / 2)``````YTM = 5.7%```Therefore, the cost of new debt for ABC Incorporated is 5.7%.

ABC Incorporated's 8% Coupon Bonds, with Six Years to Maturity