Chapter 11, Problem 10P

Russell Container Corporation has a $\text{\$1,000}$ par value bond outstanding with 30 years to maturity. The bond carries an annual interest payment of $\text{\$105}$ and is currently selling for $\text{\$880}$ per bond. Russell Corp. is in a 40 percent tax bracket. The firm wishes to know what the aftertax cost of a new bond issue is likely to be. The yield to maturity on the new issue will be the same as the yield to maturity on the old issue because the risk and maturity date will be similar.

a. Compute the yield to maturity on the old issue and use this as the yield for the new issue.

b. Make the appropriate tax adjustment to determine the aftertax cost of debt.