O'Meara Inc plans to issue 6 million of perpetual bonds. The face value of each bond is $1,000. The semi-annual coupon on the bonds is 4.5%.
Market interest rates on one-year bonds are 8%.
With equal probability, the long-term market interest rate will be either 12% or 6% next year. Assume investors are risk-nuetral.
a) IF the O'Meara bonds are noncallable, what is the price of the bonds?
b) If the bonds are callable one year from today at $1,250, will their price be greater than or less than the price you computed in (a)? WHY?
Estimate long-term market interest rate in this posting.
Default risk, inflation, and interest rate risk
Companies seek the lowest average rate of financing costs to capitalize the business. Common sources of financing are as follows:
- Common stock equity
- Preferred stock equity
- Bond debt
Explain how the following risks may affect these 3 sources of financing and the impact overall on weighted average cost of capital (WACC):
- Default risk
- Interest rate risk
- Stock and market volatility