The Many Different Kinds of Debt
Answers to Practice Questions
If the bond is issued at face value and investors demand a yield of 9.5%,
then, immediately after the issue, the price will be $1,000.
passes, the price will gradually rise to reflect accrued interest.
example, just before the first (semi-annual) coupon payment, the price will
be $1,047.50, and then, upon payment of the coupon ($47.50), the price
will drop to $1,000.
This pattern will be repeated throughout the life of the
bond as long as investors continue to demand a return of 9.5%.
Answers here will vary, depending on the company chosen.
Some key areas
that should be examined are: coupon rate, maturity, security, sinking fund
provision, and call provision.
Floating-rate bonds provide bondholders with protection against inflation
and rising interest rates, but this protection is not complete.
the extent of the protection depends on the frequency of the rate
adjustments and the benchmark rate.
(Not only can the yield curve shift,
but yield spreads can shift as well.)
Similarly, puttable bonds provide the bondholders with protection against an
increase in default risk, but this protection is not absolute.
If the company’s
problems suddenly become public knowledge, the value of the company may fall
so quickly that bondholders might still suffer losses even if they put their bonds
First mortgage bondholders will receive the $200 million proceeds from
the sale of the fixed assets.
The remaining $50 million of mortgage bonds
then rank alongside the unsecured senior debentures.
$100 million in assets will be divided between the mortgage bondholders
and the senior debenture holders.
Thus, the mortgage bondholders are
paid in full, the senior debenture holders receive $50 million and the
subordinated debenture holders receive nothing.