Question

You are working at the fixed-income sector of Solomon Brothers. You were asked to prepare a quiz for the new interns to assess their knowledge of bonds. To evaluate interns’ ability to apply their knowledge to real world, you would like to have the interns to analyze the preliminary prospectus of Google’s bond to be issued in 2014.

1. Please explain the following terms:
   1. Par value/face value
   2. Coupon rate
   3. Maturity/ settlement date
   4. Issue date
   5. Default risk
   6. Call provision
   7. Sinking fund provision

Answer 1

Par value/Face value – Par value or face value of a bond is the amount that is returned to the bondholder on maturity. Generally a bond has a par value of $1,000.

Coupon rate – It is the annual rate that a bond pays i.e. annual coupon payments divided by the par value of a bond. It shows the annual interest payment that a bondholder receives from the date of issue of bond till its maturity.

Maturity/settlement date – This is the date in which the bond matures and the principal amount is paid back to the investor.

Issue date – This is the date on which a bond is issued and the bond begins to accrue interest from this date.

Default risk – This is the risk associated with a bond that represents a chance that the bond issuer will not make the required coupon payments or principal repayment to the bondholders.

Call provision – This is that stipulation in a bond in which the issuer of the bond is allowed to repurchase and retire the debt amount associated with the bond. This provision gives the issuer the option to redeem the bonds before the maturity date of the bond.

Sinking fund provision – This is a provision in bond indentures and as per this provision the issuer of the bond has to put money aside in order to repay bondholders at the time of maturity.