Question

6. On March 28, 2008, Toyota Motor Credit Corporation (TMCC), a subsidiary of Toyota Motor,

      offered some securities for sale to the public. Under the terms of the deal, TMCC promised to   

      repay the owner of one of these securities $100,000 on March 28, 2038, but investors would

      receive nothing until then. Investors paid TMCC $24,099 for each of these securities; so they

      gave up $24,099 on March 28, 2008, for the promise of a $100,000 payment 30 years later.

Consider the following questions based on the above information:

1. Why would TMCC be willing to accept such a small amount today ($24,099) in exchange for a promise to repay about four times that amount ($100,000) in the future?

(b) Would you be willing to pay $24,099 today in exchange for $100,000 in 30 years? What would be the key considerations in answering yes or no? Would your answer depend on who is making the promise to repay?

(c) Suppose that when TMCC offered the security for $24,099, the U.S. Treasury had offered an essentially identical security. Do you think it would have had a higher or lower price?   Why?

(d) The TMCC security is bought and sold on the New York Stock Exchange. If you looked at the price today, do you think the price would exceed the $24,099 original price? Why? If you looked in 2022, do you think the price would be higher or lower than today’s price? Why?

Answer 1

A)

Why TMCC would be willing to accept 24099 in return of 100,000 after 30 years is because the company is free from servicing the debt otherwise raised for a period of 30 years. Till that period the company will not have to shed even a penny to service the debt and which may reduce the burden on the company of interest rate. The net interest rate cost to the company will be less than 5% compounded annually. Till the time the company can use the funds to the optimum utilisation without any need to repay in the short term.

B)

Yes one may be willing to pay 24099 in return of $100,000 after 30 years if the interest rate offered by other bonds is well below 5% as one would take a higher interest premium for the risk perceived for a long period of 30 years. Another factor which will be obviously be considered will be that who is promising to repay. The credit profile must be closely scrutinized and chance of comapny turning insolvent over the period of 30 years shall be assessed.

C)

If a similar security is being offered by U.S. treasury, the treasury security will possess a greater price where the yield will reduce for the treasury security because of it being riskless and the price offered to TMCC will decrease as the investors would be lured towards going for riskless security.

D)

If it would be traded on the stock exchange immidiately after the period of issue, it will be trading at lower rates, as the investors who are not confident would be willing to sell even at a small loss. But if it would be trading in the year 2022, it would be surely fetching higher prices as a 14 years out of a total of 22 years would have been passed making the maturity closer and the interest accumulated by the time also add up to the value.