Jan Volk, financial manager of Green Sea Transport (GST, has been asked by her boss to review GST's outstanding debt issues for possible bond refunding. Five years ago, GST issued $40,000,000 of 11%, 25-year debt. The issue, with semiannual coupons, is currently callable at a premium of 11%, or $110 for each $1,000 par value bond. Flotation costs on this issue were 6%, or $2,400,000.
Volk believes that GST could issue 20-year debt today with a coupon rate of 8%. The firm has placed many issues in the capital markets during the last 10 years, and its debt flotation costs are currently estimated to be 4% of the issue's value. GST's federal-plus-state tax rate is 40%.
Help Volk conduct the refunding analysis by answering the following questions.
a. What is the total dollar call premium required to call the old issue? Is it tax deductible? What is the net after-tax cost of the call?
b. What is the dollar flotation cost on the new issue? Is it immediately tax deductible? What is the after-tax flotation cost?
c. What amounts of old-issue flotation costs have not been expensed? Can these deferred costs be expensed immediately if the old issue is refunded? What is the value at the tax savings?
d. What is the net after-tax cash outlay required to refund the old issue?