Recently, Ohio Hospitals filed for bankruptcy. The firm was reorganized as American Hospitals, Inc., and the court permitted a new indenture on an outstanding bond issue to be put into effect. The issue has 10 years to maturity and coupon rate of 10 percent (I = $100) paid annually. The new agreement allows the firm to pay no interest for the first 5 years, then to resume interest payments for the next five years, and at maturity in 10 years, to repay the principal plus the interest that was not paid for the first five years, but without paying "interest on the deferred interest."
If the required rate of return is 20 percent, what should the bonds sell for in market today?
Please see attached file
Cash flows in years 1-5= $0
Interest foregone in years 1-5 = 5 x $100= $500
Cash flows in years 6-10= $100
Additional Cash flow in year 10 = Principal ($1000) + Interest foregone ($500)= $1,500
1) Present Value of cash flows in years 6-10 at time t=0
PV of cash flows for the years 6-10 at time t= ...
This solution calculates the price of bonds. It is also included in the attached Excel file.