On January 1, Year 1, ABC Inc., a publicly traded enterprise, issued $4,000,000 worth of bonds with detachable stock warrants.The bonds mature on December 31st, Year 4 and pay interest annually on December 31st at a coupon rate of 6% per annum.The yield to maturity on similar bonds was 5% at the date of issue.The bonds were issued at 108. Based on the information provided, which of the following statements is most correct?
A)On the date of issue, the bonds would be valued at $4,141,838 and the warrants would be valued at $178,162.
B)On the date of issue, the bonds would be valued at $3,821,838 and the warrants would be valued at $178,162.
C)On the date of issue, the bonds would be valued at $4,000,000 and the warrants would be valued at $320,000.
D)On the date of issue, the bonds would be valued at $4,000,000 and the warrants would be valued at $178,162.

Question

Quizplus · Accepted Answer

The total issue value of the bonds with detachable stock warrants is $4,320,000 (108% of $4,000,000). Since the bonds were issued at a premium (108%), this indicates that the market interest rate (5%) was lower than the coupon rate (6%), making the bonds more valuable. The correct allocation between the bonds and the warrants requires a method to separate the value of the bonds from the warrants, but without specific allocation details or a method provided, the most straightforward approach is to consider the entire issue value. The choice that aligns closest with the given information, considering the premium, is option A, which suggests the bonds were valued at $4,141,838 and the warrants at $178,162, summing up to the total issue value.