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Bond refunding

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An outstanding issue of Public Express Airlines debentures has a call provision attached. The total principal value of the bonds is $250 million, and the bonds have an annual coupon rate of 8 percent. The total cost of refunding would be 12 percent of the principal amount raised. The appropriate tax rate for the company is 35 percent. How low does the borrowing cost need to drop to justify refunding with a new issue?

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The borrowing cost should drop such that the total interest paid now and after refunding remains the same (at the most) so that refunding can be justified.
Currently annual interest paid is ...

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The solution explains how to calculate how low does the borrowing cost need to drop to justify refunding with a new issue

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Describe refunding and municipal bonds/tax exempt bonds

The single most important reason for the large volume of new issues of tax-exempt bonds during the 1990s has been the refunding of outstanding bonds. What facts does an issuer need and which variables must the issuer (or its financial advisor) forecast, in order to decide whether a proposed refunding is the right course of action at a given time?

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