QRM,Inc.'s marginal tax rate is 35%.It can issue 10-year bonds with an annual coupon rate of 7% and a par value of $1,000.After $12 per bond flotation costs,new bonds will net the company $966 in proceeds.Determine the appropriate after-tax cost of new debt for the firm to use in a capital budgeting analysis.

Question

Quizplus · Accepted Answer

The after-tax cost of debt can be calculated as follows:

After-tax cost of debt = (Coupon rate x (1 - Marginal tax rate)) + ((Flotation costs / (Par value - Flotation costs)) x (1 - Marginal tax rate))

= (0.07 x (1 - 0.35)) + ((12 / (1000 - 12)) x (1 - 0.35))

= 0.0455 or 4.55%

Therefore, the appropriate after-tax cost of new debt for the firm is 4.55%, which is closest to option B (4.87%).

QRM,Inc'S Marginal Tax Rate Is 35