Question

Why would a company issue bonds at a discount? What does that mean for the Coupon Rate and why is that beneficial to the firm under which circumstances?

Answer 1

A company issues bonds at a discount when its coupon rate is lower than the prevailing interest rates. When a bond’s coupon rate is less than the current interest rates then the bond does not attract investors to put their money in the bond and buy it. It is for the purpose of attracting investors to buy the bonds that a company issues bonds at a discount. The investors are given a chance to book capital appreciation and hence record capital gains as they will be able to buy the bonds at a discount and at maturity will get the pat value.

The coupon rate for a bond issued at discount will always be less than the prevailing interest rates. It is beneficial to the firm in situations in which the interest rates are rising. As the coupon rate is fixed any increase in interest rates will make the bonds less attractive to investors and hence discounts are used by companies to attract investors to buy their bonds.