Financial Management 2

K. V. Mendoza, MBA

Bonds and Their

Characteristics

Bonds and Their Key

Characteristics

What is Bond?

Who Issue Bonds?

Key Characteristics of

Bonds

What is a Bond?

A bond is a long-term contract under which a borrower agrees to make payments of interest and principal on specific dates to the holders of the bond.

Who Issue Bonds?

Corporation

s

Government Agencies

How Bonds Work?

For example, on January 3, 2009,

Allied Food Products borrowed

$50 million by issuing $50 million

of bonds. For convenience, we

assume that:

How Bonds Work?

In any event, Allied received

the $50 million; and in

exchange, it promised to

make annual interest

payments and to repay the

$50 million on a specified

maturity date.

How Bonds Work?

Allied sold 50,000 individual

bonds for $1,000 each.

Actually, it could have sold one

$50 million bond, 10 bonds each

with a $5 million face value, or

any other combination that

totalled $50 million.

Classification of Bonds

Treasury Bonds-generally

called Treasuries and

sometimes referred to as

government bonds, are

issued by the government.

Classification of Bonds

Corporate Bonds-are

issued by business firms.

unlike Treasuries,

corporates’ are exposed to

default risk.

Classification of Bonds

Municipal Bonds-or munis,

is the term given to bonds

issued by state and local

governments.

Classification of Bonds

Foreign Bonds-are

issued by a foreign

government or a foreign

corporation.

Key Characteristics of Bonds

Par value- is the stated face value of the bond

Key Characteristics of Bonds

Coupon Payment- is the specified number of dollars of interest paid each year.

Key Characteristics of Bonds

Coupon

Interest

Payment- the

stated annual

interest rate

on a bond.

Key Characteristics of Bonds

Fixed Rate

Bond- a

bond whose

interest rate

is fixed for

its entire life

Key Characteristics of Bonds

Floating Rate

Bond- A bond

whose interest

rate fluctuates

with shifts in the

general level of

interest rates.

Key Characteristics of Bonds

Zero Coupon- A bond

that pays no annual

interest but is sold at a

discount below par,

thus compensating

investors in the form of

capital appreciation

Key Characteristics of Bonds

Maturity

Date- a

specified date

on which the

par value of a

bond must be

repaid

Key Characteristics of Bonds

Call Provision-a provision in a bond contract that gives the issuer the right to redeem the bonds under specified terms prior to the normal maturity date.

Call Premium = $ 100

@10Year Bond, 10%

annual coupon

Par Value = $ 1,000

Payment = $ 1,100

Key Characteristics of Bonds

Sinking Fund Provision- a provision in a bond contract that requires the issuer to retire a portion of the bond issue each year

Key Characteristics of Bonds

Convertible

Bond- bond that is

exchangeable at the

option of the holder for

the issuing firm’s

common stock

Key Characteristics of Bonds

Warrant- a long-

term option to buy a

stated number of

shares of common

stock at a specified

price

Key Characteristics of Bonds

Putable Bond- a

bond with a provision

that allows its

investors to sell it

back to the company

prior to maturity at a

rearranged price.

Key Characteristics of Bonds

Income Bond

– a bond that pays

interest only if it is

earned

Key Characteristics of Bonds

Index (Purchasing Power) Bond –A bond that has interest payments based on an inflation index so as to protect the holder from inflation

Just as the rich rule the poor, so the

borrower is servant to the lender.

Proverbs 22:7

end of lecture