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Chapter 5: Q6BP (page 528)

The Florida Investment Fund buys 58 bonds of the Gator Corporation through a broker. The bonds pay 10 percent annual interest. The yield to maturity (marketrate of interest) is 12 percent. The bonds have a 10-year maturity.

Using an assumption of semiannual interest payments:

a.Compute the price of a bond (refer to “Semiannual Interest and BondPrices” in Chapter 10 for review if necessary).

b.Compute the total value of the 58 bonds.

Short Answer

Expert verified

a. Price of bond equals $885.30.

b. Total value of 58 bonds equals $51,347.40.

Step by step solution

01

Computation of coupon payment

Assuming the par value of the bond = $1,000

Semi-annual interest rate equals 6% (12% / 2).

Semi-annual periods equals 20 (10 x 2).

Coupon=Parvalue×Semi-annualcoupanrate=$1,000×5%=$50

02

Computation of price of bond

Priceperbond=CouponPayment×(1-1+r-nr)+FaceValue(1+r)n=50×(1-1+0.06-10×20.06)+1,000(1+0.06)10×2=$885.30

03

 Step 3: (b) Computation of Price of 58 bonds

Priceof58bonds=Priceofasinglebond×No.ofbonds=$885.30×58=$51,347.40

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Most popular questions from this chapter

The Wrigley Corporation needs to raise \(44 million. The investment banking firm of Tinkers, Evers & Chance will handle the transaction.

  1. If stock is utilized, 2,300,000 shares will be sold to the public at \)20.50 per share. The corporation will receive a net price of \(19 per share. What is the percentage underwriting spread per share?
  2. If bonds are utilized, slightly over 43,700 bonds will be sold to the public at \)1,009 per bond. The corporation will receive a net price of $994 per bond. What is the percentage of underwriting spread per bond? (Relate the dollar spread to the public price.)
  3. Which alternative has the larger percentage of spread? Is this the normal relationship between the two types of issues?

What cost of capital is generally used in evaluating a bond refunding decision? Why?

Richmond Rent-A-Car is about to go public. The investment banking firm of Tinkers, Evers & Chance is attempting to price the issue. The car rental industry generally trades at a 20 percent discount below the P/E ratio on the Standard & Poor’s 500 Stock Index. Assume that index currently has a P/E ratio of 25. The firm can be compared to the car rental industry as follows:

Richmond

Car Rental Industry

Growth rate in earnings per share.....

15%

10%

Consistency of performance.............

Increased earnings

4 out of 5 years

Increased earnings

3 out of 5 years

Debt to total assets.....................

52%

39%

Turnover of product.........................

Slightly below average

Average

Quality of management..................

High

Average

Assume, in assessing the initial P/E ratio, the investment banker will first determine the appropriate industry P/E based on the Standard & Poor’s 500 Index. Then a half point will be added to the P/E ratio for each case in which Richmond Rent-A-Car is superior to the industry norm, and a half point will be deducted for an inferior comparison. On this basis, what should the initial P/E be for the firm?

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.

d. Should the old issue be refunded with new debt?

What are the disadvantages to being public?
See all solutions

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