Accounting Quiz Chapter 9

Convertible Bonds

Convertible bonds allow the lender (the investor) to convert each bond into a specified number of shares of common stock. Convertible bonds sell at a higher price and require a lower interest rate.

Callable Bonds

Most corporate bonds are callable, or redeemable. This feature allows the borrower to repay the bonds before their scheduled maturity date at a specified call price, usually at an amount just above face value. Callable's protect the borrower against future decreases in interest rates. If interest rates decline, the borrower can buy back the high-interest rate bonds at a fixed price and issue new bonds at the new, lower interest rate.

Term Bonds

Require payment of the full principle amount of the bond at the end of the loan term. To ensure that sufficient funds are available to pay back the bonds at the end of the loan term, the borrower usually sets aside money in a "sinking fund". Maturity of bond is due on a specific date.

Compounding twice a year for Annuity

Take the amount and split it up in to compounded periods, then take interest rate and divide in half, and time doubles.

Compounding twice a year for Lump Sum

Take the interest rate and divide it in half, and then take the time and double it.

Bond

A bond is a formal debt instrument that obligates the borrower to repay a stated amount, referred to as the principle or face amount, at a specified maturity date.

Sinking Fund

A sinking fund is an investment fund to which an organization makes payments each year over the life of its outstanding debts.

Debt v. Equity

Debt financing refers to borrowing money from creditors (liabilities). Equity financing refers to obtaining investment from stockholders (stockholders' equity).

Coupon Rate

The interest rate guaranteed by the company issuing the bond.

Maturity Date

The term of the bond, when it falls due for the company to pay for it.

Face Amount

Usually worth $1,000. It is the amount of money paid on the policy's maturity date.

***

When a company issues bonds, it is much riskier to them than issuing stock.

Serial Bonds

require payments in installments over a series of years. Rather than issuing $20 mil in bonds that will be due at the end of the 10th year, the company may issue $20 mil in serial bonds, of which $2 mil is due each year for the next 10 years. Have maturity dates staggered over several different periods.