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Chapter 5: 12DQ (page 524)

Bonds of different risk classes will have a spread between their interest rates. Is this spread always the same? Why? (LO16-2)

Short Answer

Expert verified

The spread between interest rate and bonds of different risk classes is not always the same because the variations in the yield spread depend upon the changes in the economy.

Step by step solution

01

Spread

In finance, the term spread is used to denote the difference between two rates or yieldsassociated with stocks or bonds. The determination of spread facilitates the investors to assess the nature of the bond, whether the bond is expensive or cheap.

02

Impact on the spread

The spread between bonds of different risk classes and their interest rate is not always the same. The yield spread changes according to the variations in the economy.In addition, high rated bonds contain less risk, and low rated contain high-risk such changes in the rating also differentiate the spreads.

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Most popular questions from this chapter

Explain how the zero-coupon rate bond provides return to the investor. What are the advantages to the corporation? (LO16-2)

Discuss how an underwriting syndicate decreases risk for each underwriter and at the same time facilitates the distribution process.

The Hamilton Corporation Company has 4 million shares of stock outstanding and will report earnings of \(6,910,000 in the current year. The company is considering the issuance of 1 million additional shares that can only be issued at \)30 per share.

a. Assume that Hamilton Corporation Company can earn 7.0 percent on the proceeds. Calculate the earnings per share.

b. Should the new issue be undertaken based on earnings per share?

The Ellis Corporation has heavy lease commitments. Prior to SFAS No. 13, it merely footnoted lease obligations in the balance sheet, which appeared as follows:

In \( millions

In \) millions

Current assets

\(70

Current liabilities

\)30

Fixed assets

\(70

Long-term liabilities

\)30

Total liabilities

\(60

Stockholder’s equity

\)80

Total assets

\(140

Total stockholder’s equity and liabilities

\)140

The footnotes stated that the company had $14 million in annual capital lease obligations for the next 20 years.

f. Comment on management’s perception of market efficiency (the viewpoint of the financial officer).

Tyson Iron Works is about to go public. It currently has after-tax earnings of \(4,400,000, and 4,200,000 shares are owned by the present stockholders. The new public issue will represent 500,000 new shares. The new shares will be priced to the public at \)25 per share with a 3 percent spread on the offering price. There will also be $280,000 in out-of-pocket costs to the corporation.

a. Compute the net proceeds to Tyson Iron Works.
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