ABC Ltd. has 600 million, 12 per cent bonds outstanding with six years remaining to maturity. Since interest rates are falling, ABC Ltd. is…

CA Final · Advanced Financial Management · MTP · May 2024
ABC Ltd. has 600 million, 12 per cent bonds outstanding with six years remaining to maturity. Since interest rates are falling, ABC Ltd. is contemplating of refunding these bonds with a 600 million issue of 6 year bonds carrying a coupon rate of 10 per cent. Issue cost of the new bond will be 12 million and the call premium is 4 per cent. 18 million being the unamortized portion of issue cost of old bonds can be written off no sooner the old bonds are called off. Marginal tax rate of ABC Ltd. is 30 per cent. Examine the bond refunding decision. [PVIFA (7%, 6 years) = 4.766] Note: Carry out calculations in Million and round off calculations upto 4 decimal points.

Suggested Answer and Working Notes:

(i) Calculation of initial outlay:- ₹ (million) a. Face value 600 Add:-Call premium 24 Cost of calling old bonds 624 b. Gross proceed of new issue 600 Less: Issue costs 12 Net proceeds of new issue 588 c. Tax savings on call premium and unamortized cost 0.30 (24+18) 12.60 ... Initial outlay = 624 million – 588million - 12.60 million = 23.40 million (ii) Calculation of net present value of refunding the bond:- ₹ (million) Saving in annual interest expenses [600 x (0.12 – 0.10)] 12.00 Less:- Tax saving on interest and amortization 0.30 x [12 + (18-12)/6] 3.90 Annual net cash saving 8.10 PVIFA (7%, 6 years) 4.766 ... Present value of net annual cash saving 38.6046 million Less:- Initial outlay 23.40 million Net present value of refunding the bond 15.2046 million Decision: The bonds should be refunded

Topics: Security Valuation

Open in Interactive Practice Hub · Full Practice Hub · Chapter Weightage · More in this subject

Related Questions in this Topic