SOLUTIONS CHAPTER 16 - CHAPTER 16 FIXED INCOME SECURITIES:...

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CHAPTER 16 FIXED INCOME SECURITIES: BONDS AND PREFERRED STOCK 16-1 To solve this problem, use Table C at the end of this book and Equation (9-5) PV = FV x PVIF n,i $108 = $1,000 x PVIF 15,i ; PVIFF 15,i = $108 ÷ $1,000 = 0.108 If you look across the 15-year row, you will find the discount factor 0.108 under the 16 percent column. Thus, the yield of the bond to maturity is 16 percent. or by financial calculator: 15.99%. 16-2 (a) PV = $1,000 x PVIFF 10,10% = $1,000 x 0.386 = $386, or by financial calculator: $385.54 (b) PV = $1,000 x PVIF 10,8% = $1,000 x 0.463 = $463, or by financial calculator: $463.19 (c) PV = $1,000 x PVIFF 10,12% = $1,000 x 0.322 = $322, or by financial calculator: $321.97 16-3 (a) Net Cash Outflow = Gross Cash Outflow - Tax Savings (1) Gross Cash Outflow Call premium ($50 x 1,500) $ 75,000 Flotation cost of new bonds 22,000 Overlapping interest on old bonds ($1,500,000 x 0.09 x 4/12) 45,000 Gross cash outlay $142,000 (2) Tax Savings Overlapping interest on old bonds $ 45,000 Call premium 75,000 Unamortized flotation cost of old bonds ($18,000 x 25/30) 15,000 Unamortized discount on old bonds ($45,000 x 25/30) 37,500 Total tax deductible expense $172,500 x tax rate at 50% x 50% Tax savings $ 86,250 (3) Net Cash Outflow = $142,000 - $86,250 = $55,750
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(b) Annual Interest Savings = Annual Net Cash Outflow on Old Bonds - Annual Net Cash Outflow on New Bonds. (1) Annual Net Cash Outflow on Old Bonds Interest expense ($1,500,000 x 0.09) $135,000 Less: Tax savings interest expense 135,000 amortization of flotation cost ($18,000/30) 600 amortization of discount ($45,000/30) 1,500 total tax deductible expense $137,100 x tax rate at 50% x 50% tax savings $ 68,550 Annual net cash outflow $ 66,450 (2) Annual Net Cash Outflow on New Bonds Interest expense ($1,500,000 x 0.07) $105,000 Less: tax savings interest expense 105,000 amortization of flotation cost ($22,000/25) 880 total tax deductible expense $105,880 x tax rate x 50% tax savings $ 52,940 Annual net cash outflow $ 52,060 (3) Annual Interest Savings = $66,450 - $52,060 = $14,390 (c) Present Value = $14,390 x PVAIF 25,5% = $14,390 x 14.094 = $14,390 x 14.094 = $202,813 (d) NPV = $202,813 - $55,750 = $147,063 Because the net present value of the refunding decision is positive, the issue should be refunded.
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(e) $55,750 = $14,390 x PVAIF 25,r PVAIF 25,r $55,750 ÷ $14,390 = 3.874 26% r-------------------- y ---------------- 25% . . 3.834 3.874 3.985 r = 25% + 0.74% = 25.74% or by financial calculator: 25.73% Because the internal rate of return for the refunding decision (25.74%) exceeds the firm's required rate of return (5%) after taxes), the issue should be refunded. 16-4 Increase in common stock $100,000 Increase in preferred stock ($100,000 x 0.5) 50,000 Net worth $150,000 Increase in subordinated debt ($150,000 x 0.6) 90,000 Net worth plus subordinated debt $240,000 Increase in bonds ($240,000 x 0.7) 168,000 Total increase $408,000 16-5 A: $50 x 50,000 x (1 - 0.4) = $1,500,000 B: $30 x 10,000 x (1 - 0.4) = $180,000
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This note was uploaded on 02/20/2012 for the course FIN 7023 taught by Professor Wald during the Spring '12 term at The University of Texas at San Antonio- San Antonio.

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SOLUTIONS CHAPTER 16 - CHAPTER 16 FIXED INCOME SECURITIES:...

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