Question: Mullet Technologies is considering whether or not to refund a $75 million, 12 percent coupon, 30-year bond issue that was sold 5 years ago. It is amortizing $5 million of flotation costs on the 12 percent bonds over the issue's 30-year life. Mullet's investment banks have indicated that the company could sell a new 25-year issue at an interest rate of 10 percent in today's market. Neither they nor Mullet's management anticipate that interest rates will fall below 10 percent any time soon, but there is a chance that rates will increase. A call premium of 12 percent would be required to retire the old bonds, and flotation costs on the new issue would amount to $5 million. Mullet's marginal federal-plus-state tax rate is 40 percent. The new bonds would be issued 1 month before the old bonds are called, with the proceeds being invested in short-term government securities returning 6 percent annually during the interim period.
a. Perform a complete bond refunding analysis. What is the bond refunding's NPV?
b. What factors would influence Mullet's decision to refund now rather than later?