Question

The Harding Corporation has $51.2 million of bonds outstanding that were issued at a coupon rate of 12.75 percent seven years ago. Interest rates have fallen to 11.6 percent. Preston Alter, the vice-president of finance, does not expect rates to fall any further. The bonds have 18 years left to maturity, and Preston would like to refund the bonds with a new issue of equal amount also having 18 years to maturity. The Harding Corporation has a tax rate of 25 percent. The underwriting cost on the old issue was 3.7 percent of the total bond value. The underwriting cost on the new issue will be 1.8 percent of the total bond value. The premium for calling the bond early is 7.5 percent. Use Appendix D.  

 

a. Compute the discount rate. (Round the final answer to 2 decimal places.)

 

Discount rate            %

 

b. Calculate the present value of total outflows. (Enter the answers in whole dollars, not in millions. Round "PV Factor" to 3 decimal places. Do not round intermediate calculations. Round the final answer to nearest whole dollar.) 

 

Total outflows           $ 

 

c. Calculate the present value of total inflows. (Enter the answers in whole dollars, not in millions. Round "PV Factor" to 3 decimal places. Do not round intermediate calculations. Round the final answer to nearest whole dollar.) 

 

Total inflows           $ 

 

d. Calculate the net present value. (Enter the answers in whole dollars, not in millions. Round "PV Factor" to 3 decimal places. Do not round intermediate calculations. Round the final answer to nearest whole dollar. Negative amount should be indicated by a minus sign.) 

 

Net present value           $ 

 

e. Should the Harding Corporation refund the old issue?

 

multiple choice

• Yes

• No

Answer 1

А B С D 1 a) Discount rate 8.70% -11.6%*(1-25%) 2 3 b) Net cost of call premium $ 2,880,000.00 =51200000*7.5%*(1-25%) 4 Underwriting expenditure $ 921,600.00 =51200000*1.8% 5 Annual tax savings (New issue) $ 12,800.00 =(C4/18)* 25% 6 PV of tax savings (New issue) $114,350.21 =PV(8.7%,18,-C5,0,0) 7 PV of total outflows $ 3,687,249.79 =+C3+C4-C6 8 9 c) Net annual interest savings $ 441,600.00 =51200000*(12.75%-11.6%)*(1-25%) 10 PV of interest savings $3,945,082.33 =PV(8.7%,18,-C9,0,0) 11 Annual amortization (Old issue) $ 75,776.00 =51200000*3.7%/25 12 Unamortized cost (Old issue) $ 1,363,968.00 =51200000*3.7%-C11*7 13 PV of unamortized cost (Old issue) $676,953.26 =PV(8.7%,18,-C11,0,0) 14 Immediate gain in unamortized cost (Old issue) $ 687,014.74 =C12-C13 15 Cost tax savings (Old issue) $ 171,753.69 =C14*25% 16 PV of total inflows $ 4,116,836.01 -+C10+C15 17 18 d) Net present value $ 429,586.23 -+C16-C7 19 20 e) Yes, NPV > 0