1. **Problem Statement:** A firm plans to redeem Rs.50,00,000 of 12% debentures trading at 95% of face value and replace them with new 10% debentures issued at 98% of face value. The tax rate is 30%, flotation cost on new issue is 2%, and maturity is 5 years. Calculate the net annual after-tax interest savings or cost over 5 years considering premiums/discounts, flotation costs, tax shield, and straight-line amortization. 2. **Formulas and Concepts:** - Interest expense = Face value × Coupon rate - Redemption price = Face value × Market price (percentage) - Flotation cost = Face value × flotation cost percentage - Tax shield on interest = Interest × Tax rate - Amortization per year = Total premium/discount or flotation cost ÷ 5 years - Net annual after-tax interest savings = (Old interest - New interest) × (1 - Tax rate) + Amortization effects 3. **Calculate old debentures details:** - Face value = Rs.50,00,000 - Coupon rate = 12% - Market price = 95% → Redemption price = 50,00,000 × 0.95 = Rs.47,50,000 - Annual interest = 50,00,000 × 12% = Rs.6,00,000 - Tax shield on old interest = 6,00,000 × 30% = Rs.1,80,000 4. **Calculate new debentures details:** - Face value = Rs.50,00,000 (same amount to replace) - Coupon rate = 10% - Issue price = 98% → Amount raised = 50,00,000 × 0.98 = Rs.49,00,000 - Flotation cost = 50,00,000 × 2% = Rs.1,00,000 - Net proceeds = 49,00,000 - 1,00,000 = Rs.48,00,000 - Annual interest = 50,00,000 × 10% = Rs.5,00,000 - Tax shield on new interest = 5,00,000 × 30% = Rs.1,50,000 5. **Calculate amortizations:** - Old debentures discount = Face value - Redemption price = 50,00,000 - 47,50,000 = Rs.2,50,000 - Amortization of old discount per year = 2,50,000 ÷ 5 = Rs.50,000 (this increases interest expense) - New debentures flotation cost = Rs.1,00,000 - Amortization of flotation cost per year = 1,00,000 ÷ 5 = Rs.20,000 (this increases interest expense) 6. **Calculate net annual after-tax interest savings:** - Interest difference before tax = Old interest - New interest = 6,00,000 - 5,00,000 = Rs.1,00,000 - Tax effect on interest difference = 1,00,000 × (1 - 0.30) = Rs.70,000 - Amortization effect on interest expense (old discount amortization increases expense, new flotation amortization increases expense): Total amortization = 50,000 + 20,000 = Rs.70,000 - Tax effect on amortization = 70,000 × (1 - 0.30) = Rs.49,000 - Net annual after-tax interest savings = Tax effect on interest difference - Tax effect on amortization = 70,000 - 49,000 = Rs.21,000 7. **Conclusion:** The company saves Rs.21,000 annually after tax over the next 5 years by restructuring. **Answer:** Rs.21,000 net annual after-tax interest savings.