Question 1

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

Accepted Answer

Straight senior bonds are typically the least risky of the bonds listed and therefore have the lowest interest rates and prices. Convertible senior bonds, callable subordinated bonds, and straight subordinated bonds all carry higher risks and potential rewards.

Question 2

A bond has a face value of $100 and a conversion ratio of 6. The stock is currently trading at $16.30. What is the conversion price?

Accepted Answer

The conversion price is calculated by dividing the bond's face value by the conversion ratio. Here, it's $100 / 6 = $16.67.

Question 3

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 worst of this bond when it is released?

Accepted Answer

The yield to worst (YTW) for a callable bond is the lowest possible yield the bond can offer, considering all potential call dates. Since the bond can be called at par one year after release, the worst-case scenario for an investor is if the bond is called at the earliest possible date. This would result in the investor receiving only one year of coupon payments plus the principal. The YTW in this case would be the yield that equates the bond's cash flows (one year of interest plus the principal repayment) to its current price. Given the bond's price is $102 and it can be called at $100 (par) plus a $5 coupon payment after one year, the YTW is calculated based on these cash flows. The calculation involves finding the discount rate that equates the present value of these cash flows to the bond's price, which results in a YTW of 2.94%.

Question 4

A company issues a callable (at par)10-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 worst of this bond when it is released?

Accepted Answer

The yield to worst (YTW) for a callable bond is the lowest possible yield the bond can provide, considering all potential call dates. Since the bond can be called at par one year after release, the worst-case scenario for an investor is that the bond is called at the earliest possible date, which would result in the lowest yield. The bond is issued at $104 and can be called at $100 after one year, with a 6% coupon payment. The yield to worst, in this case, is calculated considering the bond is called at the earliest opportunity, which results in a yield lower than if the bond were held to maturity. The calculation for YTW in this scenario involves finding the yield that equates the bond's price (including the received coupon) to its call value at the earliest call date. This yield is 1.92%, reflecting the bond's return if it is called at the earliest opportunity.

Question 5

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 answer of A company issues a callable (at par)20-year,...

Question 6

A company issues a callable (at par)10-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 call of this bond when it is released?

Accepted Answer

To calculate the yield to call, we need to find the rate that makes the present value of all future cash flows equal to the current price of the bond, assuming it is called in one year. We can use the following formula to calculate the yield to call:

PV = C/(1+y) + C/(1+y)^2 + ... + C/(1+y)^10 + FV/(1+y)^10

where PV = current price of the bond, C = annual coupon payment ($6), FV = face value of the bond ($100), and y = yield to call.

Using the given values, we can plug them into the formula as follows:

104 = 6/(1+y) + 6/(1+y)^2 + ... + 6/(1+y)^10 + 100/(1+y)^10

To solve for y, we can use trial and error or a financial calculator. Using trial and error, we find that a yield of 1.92% makes the left side of the equation equal to the right side. Therefore, the yield to call of this bond when it is released is 1.92%.

Choice B is the correct answer.

Question 7

Which of the following statements concerning the use of sinking funds to repurchase a bond issue is NOT true?

Accepted Answer

This statement is not true, as bonds can actually be issued with both a sinking fund provision and a call provision.

Question 8

A company issues a callable (at par)10-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

The yield to maturity (YTM) of a bond is the internal rate of return (IRR) if the bond is held until maturity, assuming that all coupon and principal payments are made as scheduled. In this case, the bond is issued at a premium (price higher than the face value) because its coupon rate (6%) is higher than the prevailing market interest rates. To calculate the YTM, we would need to solve for the discount rate that equates the present value of all future cash flows (coupon payments and the repayment of the principal at maturity) to the bond's current price ($104). Given the information provided, the correct YTM cannot be calculated without performing the actual calculation using the bond's cash flows and solving for the discount rate that equates the present value of these cash flows to the bond's price. However, since the bond is issued at a premium, we know the YTM will be less than the coupon rate (6%). Among the given options, 5.47% is the only rate less than 6% and plausible given the bond's premium price, indicating it is the correct choice based on the information provided and the understanding of bond pricing principles.

Question 9

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 first opportunity, which is after one year. The bond pays a 7% coupon, but since it is priced at $110, the yield to call is lower than the coupon rate. The yield to call is calculated as the interest payment ($7) minus the loss on the bond ($10) divided by the price ($110), which results in approximately 2.73%.

Question 10

In which of the following situations does the value of a convertible bond exceed the value of straight debt or equity by the greatest amount?

Accepted Answer

When the share price is close to the conversion price, the convertible bond's value is maximized because it benefits from both the fixed income component (like straight debt) and the potential for conversion into equity at advantageous terms. This dual benefit is not as pronounced when the share price is significantly lower or higher than the conversion price.

Question 11

A bond has a face value of $1 000 and a conversion ratio of 320. What is the conversion price closest to?

Accepted Answer

The conversion price is the price per share that the bond can be converted into. It is calculated by dividing the face value of the bond by the conversion ratio. 
So, conversion price = $1 000/320 = $3.125. 
Out of the given options, the closest conversion price is $3.13 (option C).

Question 12

A bond with a face value of $1 000 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

The answer of A bond with a face value of...

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 maturity of this bond when it is released?

Accepted Answer

To calculate the yield to maturity (YTM) of the bond when it is released, we need to find the rate that makes the present value of all future cash flows equal to the current price of the bond.

At issuance, the bond is priced at $102 per $100 of face value, which implies a present value (PV) of $1020 for the bond. The annual coupon payment is 5% of $100, or $5.

If the bond is not called, the bondholder will receive 19 coupon payments of $5 each and the face value of $100 at maturity. We can calculate the present value of these cash flows using the YTM. Let's assume the YTM is y%. Then:

PV = (C / (1+y)^1) + (C / (1+y)^2) + ... + (C / (1+y)^19) + (F / (1+y)^20)

where C is the coupon payment, F is the face value, and PV is the present value.

Using a financial calculator or spreadsheet, we can solve for y by setting PV equal to $1020 and solving for y. The YTM turns out to be 4.84%.

Note that the callable feature of the bond does not affect the YTM calculation, since it only gives the issuer the option to call the bond at a certain price. The YTM represents the return an investor would earn if the bond is held to maturity.

Question 14

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 worst of this bond when it is released?

Accepted Answer

The yield to worst (YTW) for a callable bond is the lowest possible yield an investor can expect. Since the bond can be called at par in one year and is currently priced above par ($110 for $100 of face value), the worst-case scenario for an investor is if the bond is called at the first opportunity. To calculate the YTW, we consider the bond being called at the end of the first year. The investor receives $107 ($100 face value + $7 coupon), having paid $110. The yield is thus calculated as (($107 - $110) / $110) * 100 = -2.73%. Since yields are typically expressed as positive figures, the YTW is 2.73%.

Question 15

In which of the following situations would the 'yield to worst' for a certain bond be that bond's yield to call? I. The bond's coupon payments are high relative to market yields.
II. The bond price is at a discount.
III. The likelihood of the bond being called is high.

Accepted Answer

The 'yield to worst' is the lowest possible yield that an investor can receive if the bond is held to maturity, called, or purchased at a price below par. In this case, if the likelihood of the bond being called is high, then the 'yield to worst' for the bond would be the yield to call, as that is the lowest possible yield the investor can receive. Additionally, if the bond price is at a discount, the 'yield to worst' would also be the yield to call, as that is the lowest possible yield the investor can receive if they buy the bond at that price and the bond is subsequently called. The coupon payments being high relative to market yields does not necessarily impact the 'yield to worst' being the yield to call.

Question 16

A bond has a face value of $1 000 000 and a conversion ratio of 2 750. The stock is currently trading at $38.80. What is the conversion price?

Accepted Answer

The conversion price is the face value divided by the conversion ratio. So, $1,000,000/2,750 = $363.64. However, this is the price per share, so we need to round to the nearest cent, which gives us $36.36. Therefore, the correct answer is C.

Question 17

Which of the following statements about bonds that are both convertible and callable is NOT true?

Accepted Answer

Bonds that are both convertible and callable may be more valuable than non-convertible and non-callable bonds because they provide the holder with options. However, the value of such a bond prior to maturity may not always be greater than the shares that the bond can be converted into. It depends on the market value of the shares at the time of conversion. The other statements are generally true for convertible callable bonds.

Question 18

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 maturity of this bond when it is released?

Accepted Answer

We need to calculate the yield to maturity (YTM), which is the discount rate that equates the present value of the bond's cash flows with its market price. 
We know that the bond has a face value (FV) of $100, a coupon rate (C) of 7%, and annual coupon payments. We also know that the bond can be called (redeemed) at par ($100) in one year or any time after that on a coupon payment date.

To calculate the YTM, we can use a financial calculator or a spreadsheet software such as Excel. The formula for the present value (PV) of the bond is:

PV = C / r + (FV / (1 + r)^n)

where r is the YTM, n is the number of periods (years), and PV is the market price of the bond ($110).

We can start by inputting the known values into the formula and solve for r using trial and error or the Solver tool in Excel. For example, if we assume that the YTM is 5%, we get:

PV = $7 / 0.05 + ($100 / 1.05^5) = $112.68

which is higher than the market price of $110. This means our assumption of 5% is too high, and we need to try a lower value.

Using this method, we can find that the YTM that makes the PV equal to $110 is approximately 4.71%. Therefore, the best choice is C.

Question 19

Which of the following statements is FALSE regarding a 'call provision'?

Accepted Answer

The call price is typically set above the bond's face value, not at or below it. This premium compensates investors for the risk of the bond being called away before maturity.

Question 20

Supreme Industries issues the following announcement to holders of an issue of callable, convertible notes: 'Prior to the close of business on 17 May 2016, holders may convert their Notes into Supreme Industries ordinary shares at 28.45 shares per $1 000 principal amount of the Notes. Cash will be paid in lieu of fractional shares. On 16 April 2016, the last reported sale price of Supreme Industries shares on the ASX was $22.51 per share.'
If on 17 May, Supreme Industries is trading as $24.80, what is the value of ordinary shares a holder of a $1 000 note would receive?

Accepted Answer

The answer of Supreme Industries issues the following announcement to...

Quiz 15: Debt Financing