Final answer:
Bonds must be repaid with interest to the investor. The rate of interest depends on the risk associated with the borrower and includes factors such as inflation and risk premium. If a company defaults on payments, bondholders can take legal action but may not recover the full amount.
Step-by-step explanation:
Bonds must be paid back with interest. This interest is also referred to as the coupon rate and varies based on the riskiness of the borrower. Bonds are debt instruments that offer a rate of return as compensation for delaying consumption, adjusting for inflationary price changes, and accounting for a risk premium based on the borrower's creditworthiness.
Investors who purchase bonds are promised interest payments over the life of the bond and the return of the principal amount at maturity.
For example, a company may issue a bond for $10 million with an annual interest rate of 8%, resulting in $800,000 payments each year to bondholders. At the end of the bond term, the company repays the original $10 million borrowed. If a company fails to make interest payments, bondholders can go to court to demand payment, though they may only recover a portion of their investment.