Final answer:
To calculate the price of a bond issued at less than the market interest rate, we need to consider the expected payments and current interest rates. In this case, the bond's price can be determined by comparing it to an alternative investment that would yield the same payment.
Step-by-step explanation:
To calculate the price of a bond when its interest rate is less than the market interest rate, we need to consider the expected payments from the bond and the current interest rates. In this case, the expected payments one year from now are $1,080, which includes the final interest payment and the repayment of the original $1,000. Given that interest rates are now 12%, we can calculate the maximum price of the bond by considering an alternative investment that would yield the same payment.
Let's assume we can invest $964 at 12% interest rate and receive $1,080 one year from now. Using the formula: $964 * (1 + 0.12) = $1080, we find that the maximum price we would pay for the original $1,000 bond is $964.
Therefore, the correct answer is: c. $406,200.