Question

Recently, Ohio Hospitals filed for bankruptcy. The firm was reorganized as American 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 coupon rate of 10 percent (I = $100) paid annually. The new agreement allows the firm to pay no interest for the first 5 years, then to resume interest payments for the next five years, and at maturity in 10 years, to repay the principal plus the interest that was not paid for the first five years, but without paying “interest on the deferred interest.” If the required rate of return is 20 percent, what should the bonds sell for in market today?

$540

$730

$654

$362

$952

Answer 1

The Price of the bond is the present value of all future cashflows at 20% discount rate including coupon as shown below

Coupon 100 ; at 10th year total payment will be 1000 par value+ coupon + previous coupons that was not paid before.

Cashflow type	Time	PV factor	cashflows	PV cashflows
Coupon	1	0.833333	-	-
Coupon	2	0.694444	-	-
Coupon	3	0.578704	-	-
Coupon	4	0.482253	-	-
Coupon	5	0.401878	-	-
Coupon	6	0.334898	100.00	33.49
Coupon	7	0.279082	100.00	27.91
Coupon	8	0.232568	100.00	23.26
Coupon	9	0.193807	100.00	19.38
Coupon +Interest	10	0.161506	1,600.00	258.41
Total PV cashflows				362.44