Question

Tesco PLC is planning to issue a 9-year maturity bond with 20 warrants attached and a bond yield to maturity of 4%. Each warrant is expected to worth $2.5.

(a) If the coupon rate for this 9-year maturity bond is at 3%, how much capital would Tesco PLC be able to raise for every bond with 25 warrants attached to each share of bond? (1 point)

(b) Suppose Tesco PLC plans to sell each share of this 9-year bond with only 20 warrants attached at par value ($1,000) today. What is the coupon rate for this Tesco bond? (1 point)

Answer 1

A.

Face value = 1000

Coupon amount =Face Value* coupon rate

=1000*3%= 30

YTM of straight bond (I)= 4%

Years to Maturity (n)= 9

Bond price formula for straight bond = Coupon amount * (1 - (1/(1+i)^n)/i + face value/(1+i)^n

= 30*(1-(1/(1+4%)^9))/4% + 1000/(1+4%)^9

=925.6466839

Value of warrant attached = Total Number of warrant*warrant Value

=25*2.5

62.5

Value of Bond with warrant = Value of Straight Bond + Value of warrants attached

=925.6466839+62.5

=988.1466839

So each bond price is $988.15. Company will be able to collect $988.15 per Bond.

B

Sale Value if bond is par = 1000

Value of warrant attached = 20 warrant*2.5

=50

Value of Bond with warrant = Value of Straight Bond + Value of warrants attached

1000=Value of Straight bond+50

Value of straight Bond = 1000-50= 950

All things are same except Coupon Amount.

Bond price formula for straight bond = Coupon amount * (1 - (1/(1+i)^n)/i + face value/(1+i)^n

1000= c*(1-(1/(1+4%)^9))/4% + 1000/(1+4%)^9

1000-702.5867356= C*7.435331611

297.4132644/7.435331611= C

Coupon Amount = 40

Coupon rate = Coupon Amount/face Value

=40/1000= 4%

So Coupon rate is 4%