11 mills company a large defense contractor on

Info iconThis preview shows page 1. Sign up to view the full content.

View Full Document Right Arrow Icon
This is the end of the preview. Sign up to access the rest of the document.

Unformatted text preview: pay interest semiannually (every 6 months) at a stated coupon interest rate, have an initial maturity of 10 to 30 years, and have a par value, or face value, of $1,000 that must be repaid at maturity.11 Mills Company, a large defense contractor, on January 1, 2004, issued a 10% coupon interest rate, 10-year bond with a $1,000 par value that pays interest semiannually. Investors who buy this bond receive the contractual right to two cash flows: (1) $100 annual interest (10% coupon interest rate $1,000 par value) distributed as $50 (1/2 $100) at the end of each 6 months, and (2) the $1,000 par value at the end of the tenth year. We will use data for Mills’s bond issue to look at basic bond valuation. Basic Bond Valuation The value of a bond is the present value of the payments its issuer is contractually obligated to make, from the current time until it matures. The basic model for the value, B0, of a bond is given by Equation 6.7: n B0 I t I 1 (1 1 kd)t (PVIFAk d ,n ) M M 1 kd)n (1 (PVIFk ) d,n (6.7) (6.7a) 11. Bonds often have features that allow them to be retired by the issuer prior to maturity; these conversion and call features were presented earlier in this chapter. For the purpose of the current discussion, these features are ignored. CHAPTER 6 Interest Rates and Bond Valuation 285 where B0 I n M kd value of the bond at time zero annual interest paid in dollars12 number of years to maturity par value in dollars required return on a bond We can calculate bond value using Equation 6.7a and the appropriate financial tables (A–2 and A–4) or by using a financial calculator. EXAMPLE Assuming that interest on the Mills Company bond issue is paid annually and that the required return is equal to the bond’s coupon interest rate, I $100, kd 10%, M $1,000, and n 10 years. The computations involved in finding the bond value are depicted graphically on the following time line. End of Year Time line for bond valuation (Mills Company’s 10% coupon interest rate, 10-year maturity, $1,000 p...
View Full Document

This document was uploaded on 01/19/2014.

Ask a homework question - tutors are online