Recently, Free Health Hospitals Inc.filed for bankruptcy.The firm was reorganised as Good Health Hospitals Inc., and the court permitted a new indenture on an outstanding bond issue to be put into effect.The issue has 10 years to maturity and a coupon rate of 10 percent, paid annually.The new agreement allows the firm to pay no interest for 5 years.Then, interest payments will be resumed for the next 5 years.Finally, at maturity (Year 10), the principal plus the interest that was not paid during the first 5 years will be paid.However, no interest will be paid on the deferred interest.If the required return is 20 percent, what should the bonds sell for in the market today?

Question

Quizplus · Accepted Answer

To calculate the bond price, we need to calculate the present value of all future cash flows.
The first step is to calculate the present value of the interest payments for the last 5 years and the principal payment.
PV of interest payments for years 6 to 10 = (coupon rate * principal) * (1 - (1 + r)^-5) / r
= (0.10 * 1000) * (1 - (1 + 0.20)^-5) / 0.20
= 251.94

PV of principal payment at maturity = 1000 / (1 + 0.20)^10
= 150.64

Total present value = 251.94 + 150.64 = 402.58

Therefore, the bond should sell for R362.44 (rounded to the nearest cent) in the market today. Option D is the correct answer.