::: vuaskari.com ::: MGT 201 Help Required!!

Dear All 

There is a numerical example on page 125 of MGT201 handouts and they solved value of r through quadratic equation, can anyone tell me how to solve it ( I need the working how did 'r' was calculated through quadratic equation. I am attaching it under:

Example:

Company ABC issues a 2 Year Bond of Par Value Rs 1000 and a Coupon Rate of 10% pa (and

annual coupon payments). Company ABC pays an Investment Bank Rs 50 per Bond to structure and

market the bond. They decide to sell the Bond for Rs 950 (i.e. At a Discount). At the end of the first

year, Company ABC's Income Statement shows the Coupon Interest paid to Bondholders as an expense.

Interest represents a Tax Saving or Shield. Based on the Net Income and Industry Standard, the

Marginal Corporate Tax Rate is 30% of Net Income. Assuming that the 2 Year Bond represents the

ONLY form of Capital, calculate the After-Tax Weighted Average Cost of Capital (WACC) % for

Company ABC.

Step 1:

Calculate Required ROR using Bond Pricing or PV Formula

PV = 100/ (1+r*) +100/ (1+r*) 2 +1000/ (1+r*) 2

= 100/ (1+r*) + 1100/ (1+r*) 2

= Net Proceeds = NP = Market Price -Transaction Costs

= 950 - 50 = Rs 900

this is the value of PV that will be added to the above formula to calculate r*

900 = 100/ (1+r*) +100/ (1+r*) 2 +1000/ (1+r*) 2

Solve the Quadratic Equation for Pre-Tax Required ROR = r*

Using the Quadratic Formula: r* = 16% AND r = - 5 %

This question is just to represent the concept through an example. The values i.e. 16% & -5% are

assumed not exactly calculated.

--

FIZZA DASTGIR BHATTI

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MC090405569 

MBA - ISLAMABAD

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