Question

Airbutus Co. wants to issue new 20-year bonds for some much- needed expansion projects. The company currently has 8% coupon bonds on the market that sell for $930, make semiannual payments, and mature in 20 years. What coupon rate should the company set on its new bonds if it wants them to sell at par?

Answer 1

The coupon rate needs to be set to 8.75% for the bond to be sold at par value of $1,000.

What is the relationship between yield and coupon rate?

When yield is greater than the coupon rate, the bond sells at a price lower than the par value and vice versa.

For the bond to sell at par, its coupon rate needs to be the same as its yield to maturity, in essence, we need to determine the annual yield to maturity of the bond using a financial calculator as shown below:

N=40(number of semiannual coupons in 20 years=20*2=40)

PMT=40(semiannual coupon=face value*coupon rate/2=$1000*8%/2)

PV=-930(the bond current price is $930)

FV=1000(the par value of the bond is $1000)

CPT(press compute)

I/Y=4.373562205%(semiannual yield)

annual yield=4.373562205%*2

annual yield=coupon rate(for the price to be par value)=8.75%

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