Chap 13: Intermediate and Long Term Financing - Bonds

Question 1

What is bonds?

Answer 1

• a long term contract under which a borrower agrees to make payments of interest and principal on specific dates to the holder of the bond
• similar to term loans but is generally advertised, offered to the public and actually sold to many different investors
• is issued to finance a particular project or purpose

Question 2

What are the characteristics of bonds?

Answer 2

1. Nominal value
2. Coupon rate
3. Terms of maturity
4. Yield to maturity
5. Call provision
6. Sinking fund
7. Restrictive covenants

Question 3

What are the advantages of bonds to issuing firm?

Answer 3

1. Tax deduction of interest payment
2. Increase in earnings per share
3. Maintain control of the firm

Question 4

What are the disadvantages of bonds to issuing firm?

Answer 4

1. Debt must be paid
2. Increased risk due to financial leverage
3. Restrictions on issuing firm

Question 5

What are the advantages of bonds to investors?

Answer 5

1. Fixed returns
2. Lower risk

Question 6

What are the disadvantages of bonds to investors?

Answer 6

1. Fixed interest payment
2. Decline in real interest payment
3. Low return
4. Reinvestment risk on callable bonds