Maritime Construction needs to borrow $50 million for 5 years. The company estimates that the real rate

Question:

Maritime Construction needs to borrow $50 million for 5 years. The company estimates that the real rate of return is currently 2%, expected inflation per annum for the period is 3%, and the risk premium on its bonds is 2.5%. The nominal risk-free rate is currently 5%. The company has three financing options:
1. 5-year, 7% rate bonds (paid annually);
2. 5-year zero bonds; (annual compounding);
3. 5-year variable rate bonds (paid annually) at a rate of LIBOR + 1.5%. Forecasted LIBOR rates are shown below. The variable rate bonds will be issued at par.
Year...................LIBOR
1.......................3%
2.......................4%
3.......................4.5%
4.......................5%
5.......................5%
a. What is the of the bonds (i.e., the total dollar amount of bonds) that need to be issued under the three options?
b. What is the YTM on the variable rate bonds, assuming the above LIBOR rates?
c. Why is the required rate of return different on the floating rate bonds than on both the fixed-rate bonds?
d. Briefly describe the benefits and drawbacks of issuing each type of security from the company treasurer's perspective? Coupon
A coupon or coupon payment is the annual interest rate paid on a bond, expressed as a percentage of the face value and paid from issue date until maturity. Coupons are usually referred to in terms of the coupon rate (the sum of coupons paid in a... Face Value
Face value is a financial term used to describe the nominal or dollar value of a security, as stated by its issuer. For stocks, the face value is the original cost of the stock, as listed on the certificate. For bonds, it is the amount paid to the...