Providence Industries has an outstanding debenture of $25 million that was issued when flotation costs could be

Question:

Providence Industries has an outstanding debenture of $25 million that was issued when flotation costs could be expense immediately. It carries a coupon rate of 10 percent and has 15 years to maturity. Currently, similar risk bonds are yielding 9 percent over a 15-year period, and Providence is wondering if a refunding would be economically sound. The existing debenture has a call premium of 5 percent at present. It is estimated that a new issue would require underwriting costs of $470,000 and other costs of $80,000. No overlap period would be required. Providence Industries has a tax rate of 25 percent. Its cost of capital is 16 percent.
a. Should Providence Industries refund the old issue? Show your calculations.
b. Discuss your choice of discount rate.
c. Suppose the refunding was not justified economically. What other reasons might Providence have for refunding the old issue?

Cost Of Capital
Cost of capital refers to the opportunity cost of making a specific investment . Cost of capital (COC) is the rate of return that a firm must earn on its project investments to maintain its market value and attract funds. COC is the required rate of... Coupon
A coupon or coupon payment is the annual interest rate paid on a bond, expressed as a percentage of the face value and paid from issue date until maturity. Coupons are usually referred to in terms of the coupon rate (the sum of coupons paid in a...

Fantastic news! We've Found the answer you've been seeking!