3 year 20 million face, 8% semi annual coupons, issued when interest rates were at 9% what is initial balance sheet liability and what percentage of the cumulative interest expense occurred through year 1 Initial Liability…Year 1 interest expense A.19,484,213…31.84% B.19,484,213…33.05% C.20,000,000…33.05% D.20,000,000…31.84%
6mo. 19,484,213 x .045 = 876,789.585 .04(20,000,000) = 800,000 bond accrues 76,789.585 12mo. (19,484,213 + 76,789.585) x .045 = 880,245.09 (880,245.09 + 876,789.585) / [(20,000,000 + 4,800,000)-19,484,213] = 33.05%
Is this method an incorrect way of solving this problem? Use calc to arrive to get initial liability: FV = 20,000,000 I = 4.5 PMT = 800,000 N = 6 Solve for PV = 19,484,213 Total Interest expense = (Face - Initial Liability) + Total Coupon Payments = 5,315,787 20,000,000 - 19,484,213 = 515,787 Total Coupon Payments = 4,800,000 Interest for year 1: Initial Liability x Market rate = 19,484,213 * .09 = 1,753,579 1,753,579 / 5,315,787 = 33%
CFALondon - That’s the method I would’ve used too. Let’s see if we are sinking together.
It’s good to know there’s someone else out there who thinks the way I do.
B? PV(initial proceds at Market Issuance discount rate) = 19484212.75 NBV1 = 19484212.75 IE = BV* (Market Issuance rate) IE1(semi-annual) = 19484212.75*0.045 = 876789.5738 NVB(year1-2nd half) = 19484212.75 + 876789.5738 - 800000 = 19561002.3238 IE2(semi-annual) = 19561002.3238*0.045 = 880245.104571 Total Interest Expense (1st Year) = IE1 + IE2 = 876789.5738 + 880245.104571 = 1751757034.678371 Net Cash flow = outflow - inflow NCF = (FV + CP) - (InitialProceeds) (20000000 + 4800000 ) - ( 19484212.75) = 5315787.25 1757034.678371/5315787.25 = 0.33053141439605206171484759853773 = 33.05% - Dinesh S
Thanks for showing that work Dinesh. Didn’t think to adjust principal after first payment to get int exp of second payment.
You will be off by alittle if you simply just multiply initial liability by .09 since you are not taking into account the accrual of the bond…in some cases you will be close enough to the right answer to get it…in some cases you won’t, depending on the choices given.
Hi, if you use AMORT function on BAII, you got accumulated interest. you can storage the first 2 accumalated number in memory and recall it later when you get the total int. #. it might save sometime by not writing them down on the exam. but if you are not quite familiar with this function. may be it ll take you longer than traditional calculation to figure out which number means what.
Hi Guys, We probably don’t need calculations for this kind of questions.