Question

Texas Foods has a 6 percent bond issue outstanding that pays $30 in interest every March and September. The bonds are investment grade and sell at par. The bonds are callable at a price equal to the present value of all future interest and principal payments discounted at a rate equal to the comparable Treasury rate plus 0.50 percent. Which of the following correctly describe the features of this bond?

1) I. bond rating of B
2) II. "make whole" call price
3) III. $1,000 face value
4) IV. offer price of $1,000

Answer 1

The Texas Foods bond issue has a fixed interest payment, sells at par, and is callable with future payments discounted at the Treasury rate plus 0.50 percent. Its price can fluctuate based on changes in prevailing interest rates, which affects its attractiveness to investors.

Step-by-step explanation:

The Texas Foods 6 percent bond issue that pays $30 every March and September has several features worth discussing. Firstly, since the bond sells at par, this indicates that the bond is being sold at its face value, which is typically $1,000 for corporate bonds. If the bonds are investment grade and sell at par, this suggests that investors view them as a relatively low-risk investment.

Another key feature is its callable nature at a price equal to the present value of all future interest and principal payments discounted at the Treasury rate plus 0.50 percent. This suggests that if interest rates fall, the company might choose to call the bonds and reissue new ones at a lower rate, paying off the old bondholders at the present value of their bonds. It is also important to consider the bond's market price in relation to the shifting interest rates in the economy. If interest rates rise, newer bonds with higher rates make existing lower-interest bonds like Texas Foods' less attractive, potentially causing their market price to drop in order to remain competitive.