What is the PV for a bond that has 85 interest, $1000 par, 16 yr maturity, market price of $ 1,035, flotation costs of 15%. The firms tax bracket is 34%
To calculate the present value (PV) of a bond, you need to follow these steps:
Step 1: Calculate the annual coupon payment. The coupon payment is the interest payment the bondholder receives every year. In this case, the bond has an $85 annual interest payment.
Step 2: Determine the number of periods. The bond has a 16-year maturity, so the number of periods is 16.
Step 3: Calculate the market price with flotation costs. The market price already includes the flotation costs, which are given as 15%. The market price provided is $1,035.
Step 4: Calculate the after-tax flotation costs. The flotation costs are tax-deductible, so you need to calculate the after-tax cost by multiplying the flotation costs by (1 - tax rate). The tax rate is given as 34% (0.34), so the after-tax flotation costs are 15% * (1 - 0.34) = 9.9%.
Step 5: Adjust the market price for flotation costs. To calculate the adjusted market price, subtract the after-tax flotation costs from the market price. Adjusted market price = Market price - After-tax flotation costs = $1,035 - 9.9% of $1,035.
Step 6: Calculate the annual after-tax interest payment. Multiply the annual interest payment by (1 - tax rate) to get the after-tax interest payment. In this case, the annual after-tax interest payment is $85 * (1 - 0.34).
Step 7: Use the present value formula to calculate the PV of the bond. The formula is PV = C * (1 - 1 / (1 + r)^n) / r + M / (1 + r)^n, where C is the annual coupon payment, r is the required rate of return, n is the number of periods, and M is the par value of the bond.
In this case, C = annual after-tax interest payment, r = required rate of return, n = number of periods, and M = par value.
You need to know the required rate of return to calculate the PV of the bond. Once you have that information, plug in the values into the formula to find the PV.