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You borrow $11M by issuing a par-value bond that has a 10-year maturity, promises an annual coupon payment of 5 percent, and has a face value of $10M. The expected return on this bond is also 5 percent.
a) What is the value of this bond, as determined by the present value of its future cash flows? Is the bond mispriced?
b) Assume a tax rate of 35 percent. What is the value of the tax shield generated by this bond?
c) What is the NPV of financing from issuing this bond? In this case, the NPV of financing will consist of the value of the tax shield and any value gained or lost from the bond being mispriced.
d) What is the value of the tax shield generated by an identical bond that is issued in perpetuity? (This should be a very quick calculation)
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