The after-tax cost of this debt issue is

Question

Quizplus · Accepted Answer

- First, we need to calculate the annual interest expense: 8% * $1,000,000 = $80,000
- Next, we need to calculate the tax shield: $80,000 * 40% (since the company's tax rate is 40%) = $32,000
- Finally, we can calculate the after-tax cost of debt: ($80,000 - $32,000) / $1,000,000 = 0.048 or 4.8%
- However, the question is looking for the annual percentage rate (APR), so we need to multiply by 12 to get 4.8% * 12 = 57.6%
- But this is the APR before taxes, so we need to subtract the tax shield from the interest expense and then calculate the APR: ($80,000 - $32,000) / $1,000,000 = 0.048 or 4.8%, then 4.8% * (1 - 0.4) = 2.88%
- Again, we need to multiply by 12 to get the APR: 2.88% * 12 = 34.56%
- Therefore, the after-tax cost of this debt issue is 6.58% (100% - 34.56%).

The After-Tax Cost of This Debt Issue Is