On April 1,2013,a company sold $3,500,000 of ten year,6% bonds for $2,222,400. From the proceeds,the company paid $200,000 sales commission.Interest is payable semi-annually on April 1 and October 1.What is the effective rate of interest (round to 2 decimal places)?

Question

Quizplus · Accepted Answer

To find the effective rate of interest, we need to calculate the present value of all payments and compare that to the amount received from the bond sale.

PV of payments:
$3,500,000 x 0.03 x [(1 - (1/1.03^20))/0.03] = $3,135,621.94
(we use 0.03 as the semi-annual interest rate since the bond pays 6% annually and interest is paid semi-annually)

Total proceeds:
$2,222,400 - $200,000 = $2,022,400

Effective rate of interest:
($3,135,621.94 / $2,022,400)^(1/20) - 1 = 0.0698 or 6.98%

Therefore, the best choice is B.

On April 1,2013,a Company Sold $3,500,000 of Ten Year,6% Bonds