Question

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NEED ANSWER ASAP / ANSWER NEVER USED BEFORE, COMPLETELY NEW ANSWER PLEASE

Sam Strother and Shawna Tibbs are vice presidents of Mutual of Seattle Insurance Company and co-directors of the company’s pension fund management division. An important new client, the North-Western Municipal Alliance, has requested that Mutual of Seattle present an investment seminar to the mayors of the represented cities, and Strother and Tibbs, who will make the actual presentation, have asked you to help them by answering the following questions.

a. What are the key features of a bond?

b. What are call provisions and sinking fund provisions? Do these provisions make bonds more or less risky?

c. How does one determine the value of any asset whose value is based on expected future cash flows?

d. How is the value of a bond determined? What is the value of a 10-year, $1,000 par value bond with a 10% annual coupon if its required rate of return is 10%?

e.

(1) What would be the value of the bond described in Part d if, just after it had been issued, the expected inflation rate rose by 3 percentage points, causing investors to require a 13% return? Would we now have a discount or a premium bond?

(2) What would happen to the bond’s value if inflation fell and rd Would we now have a premium or a discount bond?
declined to 7%?

(3) What would happen to the value of the 10-year bond over time if the required rate of return remained at 13%? If it remained at 7%? (Hint: With a financial cal-culator, enter PMT, I/YR, FV, and N, and then change N to see what happens to the PV as the bond approaches maturity.)

Mini Case Sam Strother and Shawna Tibbs. (Chapter 5, p,238). Please respond to the following questions, a, b, c, d, e (1); e(2); e(3).

Textbook

Financial Management: Theory and Practice, 16^th edition

Brigham and Ehrhardt

Cengage

ISBN: 978-1-337-90260-1

ANSWER THROUGHLY 1-2 pages

COPY AND PASTE NOT ATTACHMENT PLEASE

NEEDS TO BE AN ORIGINAL SOURCE ANSWER NEVER USED BEFORE

*****NEEDS TO BE A ORIGINAL SOURCE****

Answer 1

a) The key features of a bond are:

• Coupon Rate - This is one of the foremost things, a person considers in a bond. The interest rate that bond specifies in its indenture The higher the rate, the better it is for an investor.
• Maturity - It is the term after which the bond will get matured and make the repayment of the bond value.
• Principal value - The face value of the bond is its principal value and it generally differs from the market value of the bond.
• Credit rating: Before buying a bond, an investor needs to check the credit rating of the bond as well as the issuer of those bonds.
• Type of ownership -The bond can be either registered or in bearer form. In a registered bond, the details of the owner of the bond are recorded with the issuer so that the coupon payments are made to the right owner. While in case of a bearer bond, the owner's information is not recorded with the issuer, the ownership lies with the person who holds the bond.
• Other provisions:

1. Callable (call premium): Under this provision, the issuer can retire the bond before the date of maturity.
2. Convertible: The bondholders are given the option to get their each bond converted into a number of common shares.
3. Put provision (putable bonds): Opposite to Callable bond, the bondholders have the option to get their bonds retired before the maturity date.

b) Call provision in a bond is the right of the company to retire its bond before the date of maturity or in other words, it can pay off its debt early. Imagine a scenario, if the market rate of interest gets low and company is paying a higher interest rate on its bond, in such a case, the company would definitely like to pay off the bond debt and take another debt with the current interest rate.

This provision tends to make the bond risky for its holder since the company can redeem those bonds before its maturity rate and thus making your financial goals vulnerable.

Sinking fund provision: with such a provision in the bond indenture, the issuing company has to regularly put aside some money for the repayment of bond value at its maturity. This provision diminishes the risk of a bond as there is a different fund made for the payment of bonds on maturity.

c) The price or value of an asset that receives cash flows in the future depends on the present value of the cash flows of the asset. The present value of all the cash flows becomes the value of the asset and this present value is derived by discounting the cash flows at an appropriate discounting / interest rate.

d) The value of a bond is the sum total of the present value of coupon payments made during the life of the bond and the present value of face value cash flow to be made at maturity. These cash flows are discounted at the required rate of return which depends on factors like market rate of return, the risk profile of issuer, etc.

100 x PVAF + 1000PVF

100 x 6.1445 + 1000 x 0.386

=614 + 386

=1000