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Chapter 4: Q10-22BP (page 324)

You are called in as a financial analyst to appraise the bonds of Olsen’s Clothing Stores. The $1,000 par value bonds have a quoted annual interest rate of 10 percent, which is paid semiannually. The yield to maturity on the bonds is 10 percent annual interest. There are 15 years to maturity.

a. Compute the price of the bonds based on semiannual analysis.

b. With 10 years to maturity, if yield to maturity goes down substantially to 8 percent, what will be the new price of the bonds?

Short Answer

Expert verified

The current price of a bond for part A is computed as $1,000, and the price of a bond for part B is computed as $1,135.90

Step by step solution

01

Computation of price of a bond Part A

Priceofbond=Coupon×(1-1(1+r)n)+FV(1+r)n=50×(1-1(1+0.05)30)+1,000(1+0.05)30=$1,000

02

Computation of price of a bond Part B

Priceofbond=Coupon×(1-1(1+r)n)+FV(1+r)n=50×(1-1(1+0.04)20)+1,000(1+0.04)20=$1,135.90

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Most popular questions from this chapter

If you owe $35,000 payable at the end of eight years, what amount should your creditor accept in payment immediately if she could earn 13 percent on her money?

What two conditions must be met to go from Formula 10-7 to Formula 10-8 in using the dividend valuation model?

P0=D1Ke-g....................(10-8)

Question:Surgical Supplies Corporation paid a dividend of $1.12 per share over the last 12 months. The dividend is expected to grow at a rate of 2.5 percent over the next three years (supernormal growth). It will then grow at a normal, constant rate of 7 percent for the foreseeable future. The required rate of return is 12 percent (this will also serve as the discount rate).

a. Compute the anticipated value of the dividends for the next three years (D1, D2, and D3).

b. Discount each of these dividends back to the present at a discount rate of 12 percent and then sum them.

c. Compute the price of the stock at the end of the third year (P3).

P3 = D4/ (Ke - g)

d. After you have computed P3, discount it back to the present at a discount rate of 12 percent for three years.

e. Add together the answers in part b and part d to get the current value of the stock. (This answer represents the present value of the first three periods of dividends plus the present value of the price of the stock after three periods.)

Cal Lury owes $10,000 now. A lender will carry the debt for five more years at 10 percent interest. That is, in this particular case, the amount owed will go up by10 percent per year for five years. The lender then will require that Cal pay off the loan over the next 12 years at 11 percent interest. What will his annual payment be?

You invest $3,000 for three years at 12 percent.

c. What is the value of your investment after three years?
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