FAQ2R - Questions and Answers for the Second Exam Can we...

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Questions and Answers for the Second Exam Can we bring old sheets for this test? No, you can only bring one sheet to this test. You should save your sheets from all three exams, and you can bring all three sheets to the final exam. If we read and do the review sheet will we be prepared for the exam? Yes, this will help prepare you. You also need to read and understand the material in the textbook and the lectures and do the end of chapter practice problems. Are the book problems similar to the exam problems? The book problems are in general longer and harder than exam problems. A typical book problem requires a lot of calculations to get to the final answer. Exam problems will typically have you do only one or two of the calculations required in the book problems. Suppose a company sells bonds with a coupon interest rate of 10%. The next year, the interest rate drops to 5%. This means the company has a premium bond. Let's say the company has a covenant in its bond contract, allowing it to call the bonds. How would they be taking advantage of the lower interest rate? Wouldn't they still need to pay off the original agreement to bondholders? How does a company pay when it exercises its call option and how does the company benefit? When a company calls its bonds, it forces bondholders to return their bond certificates to the company. Bondholders get paid back their principal amount early and typically, they also get a call premium, usually one year's interest. In the above example, bondholders would get $1,100 per bond - their face value of $1,000 plus one year's interest of $100. Calling the bonds cancels out the original agreement - the bonds no longer exist. Now the company can reissue the same amount of bonds to a new set of bondholders at the now prevailing market interest of 5%. This can be a substantial amount of interest savings. Suppose the company had $100,000,000 in bonds. It was paying $10,000,000 in yearly interest on the 10% bonds. If it reissues the bonds, it only has to pay $5,000,000 in interest a year. Why do investors buy bonds?
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This note was uploaded on 11/21/2011 for the course BMGT 340 taught by Professor White during the Fall '08 term at Maryland.

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FAQ2R - Questions and Answers for the Second Exam Can we...

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