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Chapter 5: 9DQ (page 524)
Discuss the relationship between bond prices and interest rates. What impact do changing interest rates have on the price of long-term bonds versus short-term bonds? (LO16-2)
The bond prices and interest rates have an inverse relationship. When prices of bonds increase, the interest rates go down.
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What is the difference between the following yields: coupon rate, current yield, and yield to maturity? (LO16-2)
Question: The Bowman Corporation has a \(18 million bond obligation outstanding, which it is considering refunding. Though the bonds were initially issued at 10 percent, the interest rates on similar issues have declined to 8.5 percent. The bonds were originally issued for 20 years and have 10 years remaining. The new issue would be for 10 years. There is a 9 percent call premium on the old issue. The underwriting cost on the new \)18,000,000 issue is \(530,000, and the underwriting cost on the old issue was \)380,000. The company is in a 35 percent tax bracket, and it will use an 8 percent discount rate (rounded after-tax cost of debt) to analyze the refunding decision.
c. Calculate the net present value.
Question: The Bailey Corporation, a manufacturer of medical supplies and equipment, is planning to sell its shares to the general public for the first time. The firm’s investment banker, Robert Merrill and Company, is working with Bailey Corporation in determining a number of items. Information on the Bailey Corporation follows:
Bailey corporation | |
Income statement | |
For the year 20X1 | |
Sales (all on credit) | \(42,680,000 |
Cost of goods sold | \)32,240,000 |
Gross profit | \(10,440,000 |
Selling and administrative expenses | \)4,558,000 |
Operating profit | \(5,882,000 |
Interest expense | \)600,000 |
Net income before taxes | \(5,282,000 |
Taxes | \)2,120,000 |
Net income | \(3,162,000 |
Bailey corporation | |
Balance sheet | |
As of December 31, 20X1 | |
Assets | |
Current assets: | |
Cash | \)250,000 |
Marketable securities | \(130,000 |
Accounts receivables | \)6,000,000 |
Inventory | \(8,300,000 |
Total current assets | \)14,680,000 |
Net plant and equipment | \(13,970,000 |
Total assets | \)28,650,000 |
Liabilities and stockholders’ equity | |
Current liabilities: | |
Accounts payable | \(3,800,000 |
Notes payable | \)3,550,000 |
Total current liabilities | \(7,350,000 |
Long-term liabilities | \)5,620,000 |
Total liabilities | \(12,970,000 |
Stockholder’s equity: | |
Common stock (1,800,000 shares at \)1 par) | \(1,800,000 |
Capital in excess of par | \)6,300,000 |
Retained earnings | \(7,580,000 |
Total stockholder’s equity | \)15,680,000 |
Total liabilities and stockholder’s equity | $28,650,000 |
a. Assume that 800,000 new corporate shares will be issued to the general public. What will earnings per share be immediately after the public offering? (Round to two places to the right of the decimal point.) Based on the price-earnings ratio of 12, what will the initial price of the stock be? Use earnings per share after the distribution in the calculation.
The Pioneer Petroleum Corporation has a bond outstanding with an \(85 annual interest payment, a market price of \)800, and a maturity date in five years. Find the following:
a. The coupon rate.
b. The current rate.
c. The yield to maturity
The trustee in the bankruptcy settlement for Titanic Boat Co. lists the following book values and liquidation values for the assets of the corporation. Liabilities and stockholders’ claims are also shown.
Assets | ||
Book value | Liquidation value | |
Accounts receivables | \(1,400,000 | \)1,200,000 |
Inventory | \(1,800,000 | \)900,000 |
Machinery and equipment | \(1,100,000 | \)600,000 |
Building and plant | \(4,200,000 | \)2,500,000 |
Total assets | \(8,500,000 | \)5,200,000 |
Liabilities and stockholder’s claims | |
Liabilities | |
Accounts payable | \(2,800,000 |
First lien, secured by machinery and equipment | \)900,000 |
Senior unsecured debt | \(2,200,000 |
Subordinated debenture | \)1,700,000 |
Total liabilities | \(7,600,000 |
Stockholder’s claims | |
Preferred stock | \)250,000 |
Common stock | \(650,000 |
Total stockholder’s claims | \)900,000 |
Total liabilities and stockholder’s claims | \(8,500,000 |
c. Assuming the administrative costs of bankruptcy, workers’ allowable wages, and unpaid taxes add up to \)400,000, what is the total remaining asset value available to cover secured and unsecured claims?
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