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Part 2 (With Problems)

A bond is a long-term debt instrument issued by a business or government entity to raise funds. It requires the issuer to make interest payments to holders and repay the principal at maturity. Key features include the par value, coupon interest rate, maturity date, and yield to maturity. Special types of bonds include zero-coupon bonds, floating-rate debt, and high-risk junk bonds. Call provisions allow early redemption, while sinking funds mandate periodic principal retirement. Bond valuation considers interest payments and principal as a present value of future cash flows.

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Lucy Un
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50 views

Part 2 (With Problems)

A bond is a long-term debt instrument issued by a business or government entity to raise funds. It requires the issuer to make interest payments to holders and repay the principal at maturity. Key features include the par value, coupon interest rate, maturity date, and yield to maturity. Special types of bonds include zero-coupon bonds, floating-rate debt, and high-risk junk bonds. Call provisions allow early redemption, while sinking funds mandate periodic principal retirement. Bond valuation considers interest payments and principal as a present value of future cash flows.

Uploaded by

Lucy Un
Copyright
© © All Rights Reserved
Available Formats
Download as PPTX, PDF, TXT or read online on Scribd
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Summary

 A bond is a long-term promissory note


issued by a business or governmental
unit. The issuer receives money in
exchange for promising to make interest
payments and to repay the principal on a
specified future date.

7-1
Key Features of a Bond
 Par value – face amount of the bond, which
is paid at maturity (assume $1,000).
 Coupon interest rate – stated interest rate
(generally fixed) paid by the issuer. Multiply
by par to get dollar payment of interest.
 Maturity date – years until the bond must
be repaid.
 Issue date – when the bond was issued.
 Yield to maturity - rate of return earned on

a bond held until maturity (also called the


“promised yield”). 7-2
Summary
 Some special types of long-term financing
include zero coupon bonds, which pay
no annual interest but are issued at a
discount;
 Floating-rate debt, whose interest
payments fluctuate with changes in the
general level of interest rates;
 Junk bonds, which are high-risk, high-
yield instruments issued by firms that use
a great deal of financial leverage.
7-3
Summary
 A call provision gives the issuing
corporation the right to redeem the
bonds prior to maturity under specified
terms, usually at a price greater than the
maturity value.
 A firm will typically call a bond if interest
rates fall substantially below the coupon
rate

7-4
Summary
 A sinking fund is a provision that
requires the corporation to retire a
portion of the bond issue each year. The
purpose of the sinking fund is to provide
for the orderly retirement of the issue.

7-5
Summary
 The value of a bond is found as the
present value of an annuity (the interest
payments) plus the present value of a
lump sum (the principal).

7-6
Problem
 Renfro Rentals has issued bonds that
have a 10% coupon rate, payable
semiannually. The bonds mature in 8
years, have a face value of $1,000, and a
yield to maturity of 8.5%. What is the
price of the bonds?

7-7
Problem
 Jackson Corporation’s bonds have 12
years remaining to maturity. Interest is
paid annually, the bonds have a $1,000
par value, and the coupon interest rate is
8%. The bonds have a yield to maturity
of 9%. What is the current market price
of these bonds?

7-8
Problem
 The Pennington Corporation issued a new
series of bonds on January 1, 2018. The
bonds were sold at par ($1,000), had a
12% coupon, to mature in 30 years on
December 31, 2048. Coupon payments
are made semiannually (on June 30 and
December 31).

7-9
Problem
 a. What was the YTM on the date the
bonds were issued?

 b. What was the price of the bonds on


January 1, 2023 (5 years later), assuming
that interest rates had fallen to 10%?

7-10
Problem
 The Garraty Company has two bond
issues outstanding. Both bonds pay $100
annual interest plus $1,000 at maturity.
Bond L has a maturity of 15 years, and
Bond S has a maturity of 1 year.

7-11
Problem

 What will be the value of each of these


bonds when the going rate of interest is
(1) 5%, (2) 8%, and (3) 12%? Assume
that there is only one more interest
payment to be made on Bond S.

7-12
Problem
 An investor has two bonds in his portfolio.
Each bond matures in 4 years, has a face
value of $1,000, and has a yield to maturity
equal to 9.6%. One bond, Bond C, pays an
annual coupon of 10%; the other bond, Bond
Z, is a zero coupon bond. Assuming that the
yield to maturity of each bond remains at
9.6% over the next 4 years, what will be the
price of each of the bonds at the following
time periods? Fill in the following table
7-13
Problem

7-14

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