510 Handout 2 Bond examples - In exercises 2.1 through 2.3...

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ACCY 510, Financial Reporting Standards Department of Accountancy, Fall 2011 In-class handout #2 In-class work (group) Today’s class will involve three kinds of group exercises. I. Understanding Contracts. Draw up the time lines for the following contract: Exercise 2.1 On 1/31/2011 Abbot Corporation issues $1,000,000 of 10 year 5% bonds at par to Costello Inc., interest payable annually. Both companies’ fiscal years end on 12/31. II. Review of present value calculus connecting (nominal) cash flows and economic values. Exercise 2.2 Assume the same facts as exercise 2.1 except that the market rate of interest is 8% on 1/31/2011. What changes in the time line for exercise 2.1? Exercise 2.3 Redo exercise 2.2 under the assumption that the market rate of interest is 3% instead. III. Understanding uncertainty: its causes and consequences.
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Unformatted text preview: In exercises 2.1 through 2.3, there is no uncertainty (why?). Exercise 2.4 Introduce uncertainty into the picture. How does this complicate the problem? Homework (individual) 1 In practice bonds often have features more complex than the ones described above. For example some bonds may be callable, i.e., can be redeemed at the issuer’s discretion, with or without paying a premium, much as you can pay off a car loan early. Identify some additional features of bond contracts (other than the call feature described above) that might complicate the simple pictures we have discussed today. Draw the associated time lines for each of these more complex bond issues. 1 Due @ the beginning of next class. Late work, work missing names & sections won’t be graded. No exceptions....
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