Question 1

What are debentures?

Accepted Answer

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Question 2

A company issues a callable (at par) five-year, 7% coupon bond with annual coupon payments. The bond can be called at par in one year after release or any time after that on a coupon payment date. On release, it has a price of $110 per $100 of face value. What is the yield to call of this bond when it is released?

Accepted Answer

The yield to call is calculated based on the bond being called at the earliest possible date, which is one year after release. The bond is priced at $110, and if called at par ($100), the investor would incur a loss. The yield to call accounts for this loss and the coupon payment, resulting in a lower yield than the coupon rate.

Question 3

Which of the following statements is FALSE?

Accepted Answer

If the issuer fails to live up to any covenant, it does not necessarily mean that the issuer goes into bankruptcy. Depending on the severity of the covenant breach, the issuer may be required to make certain remedial actions or face penalty fees, but bankruptcy is not an automatic consequence.

Question 4

A bond with a face value of $1000 is convertible to ordinary shares at a conversion ratio of 60. If the shares are currently trading at $8.20 per share, the value of the bond is probably closest in value to which of the following?

Accepted Answer

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Question 5

Which of the following is an advantage of a public bond issue over private placement?

Accepted Answer

One advantage of a public bond issue is that the bonds are freely tradable on the bond market, which can increase their liquidity. Private placements are typically sold to a limited number of investors who may not have the ability to resell the bonds easily. A is incorrect because public bond issues can be more costly due to the expenses associated with registration and marketing. B is incorrect because private placements can be tailored to the specific needs of the issuer and investors. D is incorrect because all securities offerings must be registered with the appropriate regulatory agencies, including bond issues.

Question 6

Why do the issuers of bonds not seek to minimise the strength and number of covenants in a bond agreement?

Accepted Answer

Covenants can lower the interest rate because they provide investors with protection, reducing the perceived risk of the bond.

Question 7

$$\begin{array} { l l } 
\text { Couporc } & 0 \% \
\text { Conversion Ratio } & 20 \% \text { shanes per } \$ 1000 \text { principol amount } \
\text { Call Dates } & \text { 1 July } 2012 \
\text { Call Prick: } & \text { Par } \
\text { MSaturity: } & \text { 1 July } 2019
\end{array}$$ A firm issues the convertible debt shown above. The share price of this company on 1 July 2012 is $4.95. If the bonds are called on this date, which of the following is the action most likely to be taken by a holder of a bond of face value $10,000?

Accepted Answer

The conversion ratio is 20 shares per $1000, so for a $10,000 bond, the holder can convert to 200 shares. At a share price of $4.95, the shares would be worth $990. However, the question seems to have a typo in the share price or conversion ratio. Assuming the conversion ratio is correct, the value of shares would be $4.95 * 200 = $990. The correct choice should reflect the value of shares based on the given conversion ratio and share price.

Question 8

Which of the following best describes an international bond that is NOT denominated in the local currency of the country in which it is issued?

Accepted Answer

A Eurobond is issued in a country but not denominated in that country's local currency.

Question 9

Which of the following will have the greatest need of strong bond covenants if it is to receive a high bond rating?

Accepted Answer

The answer of Which of the following will have the...

Question 10

What are notes?

Accepted Answer

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Question 11

What is secured debt?

Accepted Answer

The answer of What is secured debt?...

Question 12

Bond covenants tend to increase a bond issuer's borrowing costs?

Accepted Answer

The answer of Bond covenants tend to increase a bond...

Question 13

A company issues a callable (at par) 20-year, 5% coupon bond with annual coupon payments. The bond can be called at par in one year after release or any time after that on a coupon payment date. On release, it has a price of $102 per $100 of face value. What is the yield to call of this bond when it is released?

Accepted Answer

The yield to call is calculated based on the bond being called at the first opportunity, which is in one year. The bond is priced at $102, and if called, the investor receives $100 plus the $5 coupon, totaling $105. The yield to call is the interest rate that equates the present value of these cash flows to the bond's price. Solving for this gives approximately 2.94%.

Question 14

Which of the following would be most likely to have the lowest price?

Accepted Answer

Callable subordinated bonds typically have higher yields to compensate for the higher risk of being called and their lower priority in case of liquidation, leading to a lower price compared to other bonds.

Question 15

A firm issues $500 million in straight bonds at an original issue discount of 1% and a coupon rate of 5%. The firm pays fees of 3% on the face value of the bonds. What is the net amount of funds that the debt issue will provide for the firm?

Accepted Answer

The net amount of funds that the debt issue will provide for the firm is the face value of the bonds minus the original issue discount and the fees. The original issue discount is 1% of $500 million, or $5 million. The fees are 3% of $500 million, or $15 million. Therefore, the net amount of funds that the debt issue will provide for the firm is $500 million - $5 million - $15 million = $480 million.

Question 16

Convertible bonds have a provision that gives the bondholder an option to convert each bond owned into a fixed number of ordinary shares.

Accepted Answer

This is a correct description of convertible bonds.

Question 17

What is an original issue discount bond?

Accepted Answer

The answer of What is an original issue discount bond?...

Question 18

When would it make sense for a firm to call a bond issue and refinance?

Accepted Answer

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Question 19

A company issues a callable (at par) ten-year, 6% coupon bond with annual coupon payments. The bond can be called at par in one year after release or any time after that on a coupon payment date. On release, it has a price of $104 per $100 of face value. What is the yield to maturity of this bond when it is released?

Accepted Answer

To calculate the yield to maturity (YTM), we need to first find the cash flows for the bond.

Assuming a face value of $100:
- Year 1: receive a coupon payment of $6 + return of principal of $100 if bond is not called = $106
- Year 2-10: receive a coupon payment of $6

If the bond is called in year 1, the cash flow would just be $106.

Using a financial calculator, we can solve for the YTM of the bond when it is released at $104 per $100 of face value, with a coupon rate of 6%, coupon payments made annually, and a maturity of 10 years. We enter the cash flows ($-104, $6, $6,...$6, $106) and solve for the IRR (YTM), which is approximately 5.47%.

Therefore, the answer is choice A: 5.47%.

Question 20

A firm issues $200 million in straight bonds at an original issue discount of 0.75% and a coupon rate of 7%. The firm pays fees of 2.5% on the face value of the bonds. The net amount of funds that the debt issue will provide for the firm is closest to which of the following?

Accepted Answer

The original issue discount is 0.75% of $200 million, which is $1.5 million. The fees are 2.5% of $200 million, which is $5 million. The net amount is $200 million - $1.5 million - $5 million = $193.5 million.

Quiz 15: Debt Financing