# Question

A corporation buys $100 par value preferred stock of another corporation. The dividend payment is 7.8 percent of par. The corporation is in a 35 percent tax bracket.

a. What will be the after-tax return on the dividend payment? Fill in the following table.

Par value

Dividend payment (%)

Actual dividend

Taxable income (30% of dividend)

Taxes (35% of taxable income)

After-tax return (Actual dividend – Taxes)

Percent return =

After-tax return

Par value

b. Assume a second investment in a $1,000 par value corporate bond pays 8.6 percent interest. What will be the after-tax return on the interest payment? Fill in the table below.

Par value

Interest payment (percent)

Actual interest

Taxes (35 percent of interest)

After-tax return (Actual interest – Taxes)

Percent return =

After-tax return

Par value

c. Should the corporation choose the corporate bond over the preferred stock because it has a higher quoted yield (8.6 percent versus 7.8 percent)?

a. What will be the after-tax return on the dividend payment? Fill in the following table.

Par value

Dividend payment (%)

Actual dividend

Taxable income (30% of dividend)

Taxes (35% of taxable income)

After-tax return (Actual dividend – Taxes)

Percent return =

After-tax return

Par value

b. Assume a second investment in a $1,000 par value corporate bond pays 8.6 percent interest. What will be the after-tax return on the interest payment? Fill in the table below.

Par value

Interest payment (percent)

Actual interest

Taxes (35 percent of interest)

After-tax return (Actual interest – Taxes)

Percent return =

After-tax return

Par value

c. Should the corporation choose the corporate bond over the preferred stock because it has a higher quoted yield (8.6 percent versus 7.8 percent)?

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