Which statement regarding debt refunding is true?
A)If new debt is used to refund old debt, the correct discount rate to use in the refunding analysis is the before-tax cost of new debt.
B)The key benefits associated with refunding debt are the reduction in the firm's debt ratio and the creation of more reserve borrowing capacity.
C)The mechanics of finding the NPV of a refunding decision are fairly straightforward. However, the decision of when to refund is not always clear because it requires a forecast of future interest rates.
D)If a firm with a positive NPV refunding project delays refunding and interest rates rise, the firm can still obtain the entire NPV by locking in a low coupon rate when the rates are low, even though it actually refunds the debt after rates have risen.

Question

Quizplus · Accepted Answer

The mechanics of finding the NPV of a refunding decision are fairly straightforward, but forecasting future interest rates is difficult. The correct discount rate to use in the refunding analysis is the after-tax cost of new debt, and the key benefits of refunding debt include lower interest costs and increased cash flows for the firm by locking in lower costs. However, choosing when to refund requires consideration of future interest rates, which are unpredictable. Delaying refunding could result in lost NPV if interest rates rise.

Which Statement Regarding Debt Refunding Is True