Question

Calculating the Fair Value of Debt

The Longo Corporation issued $60 million maturity value in notes, carrying a coupon rate of six percent, with interest paid semiannually. At the time of the note issue, equivalent risk-rated debt instruments carried yield rates of eight percent.

The notes matured in five years.

Calculate the proceeds that Longo Corporation will receive from the sale of the notes.
Round your answer to the nearest dollar.

$Answer

How will the notes be disclosed on Longo’s balance sheet immediately following the sale?
Round your answers to the nearest dollar.

Notes payable	$Answer
Less discount (enter as negative)	$Answer
Notes payable (net)	$Answer

Calculate the interest expense for Longo Corporation for the first year that the notes are outstanding.
Do not round until final answer. Round answers to the nearest dollar.

First six months	$Answer
Second six months	$Answer

Calculate the balance sheet value of the notes at the end of the first year.
Do not round until final answer. Round answer to the nearest dollar.

$Answer

Answer 1

Answer a.

Maturity Value = $60,000,000

Annual Coupon Rate = 6%
Semiannual Coupon Rate = 3%
Semiannual Coupon = 3% * $60,000,000
Semiannual Coupon = $1,800,000

Time to Maturity = 5 years
Semiannual Period to Maturity = 10

Annual Yield = 8%
Semiannual Yield = 4%

Current Value = $1,800,000 * PVIFA(4%, 10) + $60,000,000 * PVIF(4%, 10)
Current Value = $1,800,000 * (1 - (1/1.04)^10) / 0.04 + $60,000,000 / 1.04^10
Current Value = $55,133,463

Answer b.

Answer c.

First Six Months:

Interest Expense = $55,133,463 * 4%
Interest Expense = $2,205,339

Decrease in Notes Payable = Interest Expense - Semiannual Coupon
Decrease in Notes Payable = $2,205,339 - $1,800,000
Decrease in Notes Payable = $405,339

Outstanding Balance = $55,133,463 - $405,339
Outstanding Balance = $54,728,124

Second Six Months:

Interest Expense = $54,728,124 * 4%
Interest Expense = $2,189,125

Decrease in Notes Payable = Interest Expense - Semiannual Coupon
Decrease in Notes Payable = $2,189,125 - $1,800,000
Decrease in Notes Payable = $389,125

Outstanding Balance = $54,728,124 - $389,125
Outstanding Balance = $54,338,999

Answer d.

Value of notes payable at the end of first year is $54,338,999