Finance Chapter 6
The current market price of Smith Corporation's 10-year bonds is $1,297.58. A 10 percent coupon interest rate is paid semiannually, and the par value is equal to $1,000. What is the yield to maturity (YTM), (stated on a simple, or annual, basis) if the bonds mature 10 years from today?
6%
Two years ago, Synergy Inc. issued a 15-year callable bond with a $1,000 face value and a 12 percent coupon rate of interest (paid semiannually). The bond cannot be called until five years after issue, at which time the call price will equal $1,120. Currently, the bond is selling for $989.What is the bond's yield to call (YTC).
15.76%
When the market value of debt is the same as its face value, it is said to be selling at the _____.
par value
If a bond's yield to maturity exceeds its coupon rate, the bond's _____.
price must be less than its par value
Commercial paper is a type of _____.
promissory note
A bond's principal value is also referred to as the maturity value because it is _____.
repaid at the maturity date
A bond sinking fund provision requires a firm to _____.
retire a portion of the bond issue each year
When liquidating a traditional certificate of deposit (CD) prior to maturity, the owner must _____.
return it to the issuing institution
The two principal types of municipal bonds are _____.
revenue bonds and general obligation bonds
Lower-rated bonds offer higher returns than higher-grade bonds because their _____.
risks are higher
A certificate of deposit represents a _____.
savings time deposit at a bank or other financial intermediary
If the yield to maturity (the market rate of return) of a bond is less than its coupon rate, the bond should be _____.
selling at a premium; i.e., the bond's market price should be greater than its face value
When the market value of debt is the same as its par value, it is _____.
selling at its face value
A(n) _____ is a provision that facilitates the orderly retirement of a bond issue.
sinking fund
In the event of liquidation, a(n) _____ has a claim on assets only after the senior debt has been paid off.
subordinated debenture
The face value of a debt is _____.
the principal value written on the face, or outside cover, of a debt contract
A _____ is assigned to represent the bondholders and to guarantee that the terms of the indenture are carried out.
trustee
A change in market conditions causes the market price of a bond to change because of changes in the bond's _____.
yield to maturity
If an investor buys a bond and holds it until it matures, the average rate of return the investor will earn per year is called the bond's _____.
yield to maturity
A bond that pays no annual interest but is sold at a discount below its par value is called a _____.
zero coupon bond
Which of the following types of bonds protects a bondholder against increases in interest rates?
Floating-rate bonds
Which of the following statements is true about foreign bonds?
Foreign bonds are bonds sold in a foreign country and are denominated in the currency of the country in which the issue is sold.
The indentures for publicly-traded bonds are approved by the _____.
Securities and Exchange Commission
Recently, Ohio Hospitals Inc. filed for bankruptcy. The firm was reorganized as American Hospitals Inc., and the court permitted a new indenture on an outstanding bond issue of face value $1,000 to be put into effect. The issue has 10 years to maturity and a coupon rate of 10 percent, paid annually. The new agreement allows the firm to pay no interest for five years. Then, interest payments will be resumed for the next five years. Finally, at maturity (Year 10), the principal plus the interest that was not paid during the first five years will be paid. However, no interest will be paid on the deferred interest. If the required return is 20 percent, what should the bonds sell for in the market today?
$362.44
GP&L sold $1,000,000 of 12 percent, 30-year, semiannual payment bonds with a face value of $1,000, 15 years ago. The bonds are not callable, but they do have a sinking fund, which requires GP&L to redeem 5 percent of the original face value of the issue each year ($50,000), beginning in Year 11. To date, 25 percent of the issue has been retired. The company can either call bonds at par for sinking fund purposes or purchase bonds in the open market, spending sufficient money to redeem 5 percent of the original face value each year. If the current market yield of the bonds is 14 percent, what is the least amount of money GP&L must put in to satisfy the sinking fund provision for the next redemption?
$43,796
Due to a number of lawsuits related to toxic wastes, a major chemical manufacturer has recently experienced a market reevaluation. The firm has a bond issue outstanding with 15 years to maturity and a coupon rate of 8 percent, with interest being paid semiannually. The face value of the bond is $1,000. The required simple rate of return on this debt has now risen to 16 percent. What is the current value of this bond?
$550
Assume that an investor wishes to purchase a 20-year bond with a maturity value of $1,000 and semiannual interest payments of $40. If the investor requires a 10 percent simple yield to maturity on this investment, what is the maximum price she should be willing to pay for the bond?
$828
Rick bought a bond when it was issued by Macroflex Corporation 14 years ago. The bond, which has a $1,000 face value and a coupon rate equal to 10 percent, matures in six years. Interest is paid every six months; the next interest payment is scheduled for six months from today. Assuming the yield on similar risk investments is 14 percent, calculate the current market value (price) of the bond.
$841.15
An investor just purchased a 10-year, $1,000 par value bond. The coupon rate on this bond is 8 percent annually, with interest being paid every six months. If the investor expects to earn a 10 percent simple rate of return on this bond, how much should the investor pay for it?
$875.38
Devine Divots issued a bond a few years ago. The bond has a face value equal to $1,000 and pays investors $30 interest every six months. The bond has eight years remaining until maturity. If an investor requires a 7 percent rate of return to invest in this bond, what is the maximum price the investor should be willing to pay to purchase the bond?
$939.53
The maturity of commercial paper varies from _____.
1 to 9 months
A $1,000 par value bond sells for $1,216. It matures in 20 years, has a 14 percent coupon, pays interest semiannually, and can be called in 5 years at a price of $1,100. Calculate the bond's yield to maturity.
11.26%
Which of the following types of investors would be most likely to purchase zero coupon bonds?
Tax-free institutional investors such as pension funds
The current price of a 10-year, $1,000 par value bond is $1,158.91. Interest on this bond is paid every six months, and the simple annual yield is 14 percent. From the given information, calculate the annual coupon rate on the bond.
17%
Cold Boxes Corporation has 100 bonds outstanding with a maturity value of $1,000. The required rate of return on these bonds is currently 10 percent, and interest is paid semiannually. The bonds mature in 5 years, and their current market value is $768 per bond. Which of the following is the annual coupon interest rate?
4%
Rolling Coast Inc. issued BBB bonds two years ago. These bonds provided a yield to maturity (YTM) of 11.5 percent. Long-term risk-free government bonds were yielding 8.7 percent at the time. The current risk premium on BBB bonds versus government bonds is half of what it was two years ago. If the risk-free long-term government bonds are currently yielding 7.8 percent, then at what interest rate should Rolling Coast expect to issue new bonds?
9.2%
Which of the following ratings by Moody's is given to the bonds of companies that have the best credit risk?
Aaa
Which of the following events would make it less likely for a company to choose to call its outstanding callable bonds?
An increase in interest rates
Which of the following statements about a bond that sells for its par value is correct?
As long as market rates remain constant, the bond's capital gains yield will equal to zero.
Which of the following ratings by Standard & Poor's (S&P) is given to speculative bonds with extremely high credit risk?
CCC
_____ bonds are often called by the firm prior to maturity.
Callable
Which of the following statements is true about commercial paper?
Commercial paper is issued at a discount.
Which of the following statements is true about federal funds?
Federal funds are used by banks to meet the reserve requirements of the Federal Reserve.
Which of the following statements is correct?
If a 10-year, $1,000 par value bond is issued at a coupon rate of 10 percent and if its market yield is 5 percent, the bond will sell at a premi
Which of the following is an advantage of convertible bonds?
Investors can choose to hold the company's bonds or convert the bonds into its common stock.
_____ bonds are high-risk, high-yield bonds that are often used to finance mergers, leveraged buyouts, and troubled companies.
Junk
Which of the following bonds pays interest based on an inflation index?
Purchasing power bonds
Assuming other things are held constant, which of the following is correct?
The change in the price of a bond due to a change in the interest rate is more significant in bonds with longer maturity periods.
Which of the following statements about a bond that is selling at a discount is correct?
The market price of the bond will increase and will approach its face value as the maturity date gets closer.
Which of the following statements is true of a bond?
The maturity date of a bond is contractually fixed.
Which of the following is true of a traditional certificate of deposit (CD)?
Traditional CDs must be kept at the issuing institution for a specified time period.
Bonds issued by BB&C Communications that have a coupon rate of interest equal to 10.65 percent currently have a yield to maturity (YTM) equal to 15.25 percent. Based on this information, it is understood that BB&C's bonds must currently be selling at _____ in the financial markets.
a discount
If interest rates decline, bondholders will earn _____.
a lower rate of return on reinvested cash flows
A contract that is negotiated directly between a borrowing firm and a bank and under which the borrower agrees to make a series of interest and principal payments to the bank on specific dates is called _____.
a term loan
Banks generally use the federal funds market to _____.
adjust their reserves
The Securities and Exchange Commission is required to verify that _____.
all previous indenture provisions have been met before allowing a company to sell new securities to the public
A call provision for the redemption of a bond _____.
allows the firm to refinance debt
The par value of debt is the _____.
amount owed to the lender
Changes in a firm's bond rating affect its ability to _____.
borrow long-term capital as well as the cost of such funds
The computation for the yield to call (YTC) is the same as that for the yield to maturity (YTM), except that we substitute the _____ of the bond for the maturity (par) value and _____ for the years to maturity.
call price; the number of years until the bond can be first called
An increase in interest rates will help increase the future value of a portfolio because the cash flows produced by the portfolio _____.
can be reinvested at higher rates of return
Because a bond's rating serves as an indicator of its default risk, the rating has a direct, measurable influence on the firm's _____.
cost of using such debt and thus the bond's interest rate
Omega Software Corporation's bond with a face value of $1,000 is currently selling at a premium in the financial markets. If the bond's yield to maturity is 11.5 percent, then the bond's _____.
coupon rate of interest must be greater than 11.5 percent
The greater a bond's default risk, the greater the _____.
default risk premium (DRP) associated with the bond
A sinking fund call on a bond _____.
does not require the company to pay a call premium
The current market interest rate declines from 10 percent to 8 percent. Due to interest rate reinvestment risk, the bondholders will _____.
earn a lower return on the reinvested cash flows
Omega Inc. holds a 12-year bond that has a 12 percent coupon rate and a marginal tax rate of 40 percent. It is currently selling for $1,000, which is the bond's face value. If interest is paid semiannually, the bond's yield to maturity is _____.
equal to 12 percent
If Standard & Poor's ratings of a firm's bonds is below BBB, the _____.
firm will find it difficult to find potential investors when issuing new bonds
Revenue bonds are used to raise funds _____.
for projects that generate revenues that will contribute to payment of interest and the repayment of debt
General obligation bonds are backed by the _____.
government's ability to tax its citizens
A bond differs from a term loan in that a bond _____.
has a higher issuance cost
A bond that pays interest only when a firm has sufficient earnings to cover the interest payments is called a(n) _____.
income bond
The terms and conditions of a bond are set forth in its _____.
indenture
The percentage rate of return that investors earn on a bond consists of a(n) _____.
interest yield plus a capital gains yield
Per Standard & Poor's Corporation (S&P), a bond whose rating is BBB is considered _____.
investment grade with medium investment risk
At the time a bond is issued, the coupon rate on the bond is set at a level that will cause the _____.
issuing price to be equal the face (par) value of the bond
For installment loans, the maturity date is the date on which the _____.
last installment repayment of the principal amount is due
Federal funds represent _____.
loans from one bank to another bank
The _____ of a bond fluctuates continuously during its life.
market value
A debt is said to be selling at par when the _____.
market value is equal to the face value of the debt
A bond backed by tangible (real) assets is known as a _____.
mortgage bond
The par value of debt _____.
must be repaid at some point during the life of the debt
A(n) _____ certificate of deposit (CD) can be traded to other investors prior to maturity.
negotiable
The conversion ratio is the _____.
number of shares of stock that the bondholder receives upon conversion of a bond