Topic2 Valuation 6PG

9/03/2016
Contact Details
Emma Jincheng Zhang (Weeks 3-5)
jin.zhang@unsw.edu.au
Rm 302
Consultation hours: Wednesdays 10-12pm
FINS1613: Business Finance

Semester 1, 2016
Topic 2: Valuation of a Firms securities
Outline
Capital structure
Bond valuation
1.
2.
Bond terminology
Coupon bonds
Zero coupon bonds
Determinants of the yield to maturity
a)
b)
c)
d)
a)
b)
c)
d)
1. Capital Structure
Inflation and interest rates

Interest rate risk
Term structure of interest rates
Credit ratings
Equity valuation
3.
Equity terminology
Dividend discount model
a)
b)
i.
c)
Estimating dividend growth
Total payout model

4
Capital structure
Capital structure: Debt
Capital structure: The relative proportions of debt, equity

and other securities that a firm has outstanding
Common types of securities:
Bonds (debt)
Ordinary shares (equity)
Preference shares (equity)
=+
When a corporation (or government) wishes to borrow

money from the public on a long-term basis (at least 1 year), it
usually does so by selling bonds.
Government bonds are issued by the Australian Treasury
Corporate bonds are issued by corporations
V = PV of cash flows generated by the firm

D = PV of cash flows generated by debt securities
E = PV cash flows generated by equity securities
Considered risk free in developed countries as there is no risk of the

government not making payments and defaulting.
E.g. Australian10-year bond
Considered risky as corporations may default on payments.The

greater the default risk, the higher the interest rate to attract buyers.
E.g. Woolworths Limited bonds
9/03/2016
Capital structure: Equity
Residual value
Equity financing includes ordinary shares (common stock)

and preference shares (preferred stock)
Ordinary shares: Equity without priority for dividends; in
bankruptcy it has a residual claim on the assets of the
firm.
E.g. Woolworths Limited (WOW) trading on the ASX
Preference shares: Share with dividend priority over

ordinary shares, normally with a fixed dividend rate,
sometimes without voting rights.
E.g. ANZ convertible preference shares (ANZPA) trading on

the ASX
10
Primary and secondary markets
Primary market transaction: the corporation is the seller

and the transaction raises money for the corporation.
Public offering: involves selling securities to the general public

Private placements: negotiated sale involving a specific buyer
Secondary market transaction: involves one owner or

creditor selling to another.
11
2. Bond Valuation
Secondary markets provide the means for transferring

ownership of corporate securities
12
9/03/2016
Bond terminology
Bond terminology
Coupon: The promised interest payments of a bond, paid

periodically until the maturity date of the bond.
Coupon rate: Determines the amount of each coupon
payment; expressed as an APR
Face (par) value: The principle amount that is repaid at
the end of the term.
Maturity: Date on which the principal amount is paid.
Yield to maturity (yield): The market required rate of
return for bonds of similar risk and maturity; quoted as an
APR
Example: A six-year bond with $1,000 face value and 5%
coupons paid semi-annually.
13
14
Coupon bonds
Coupon bonds
t=0
t=1
t=2
t=3
t=4
t=n
$C
$C
$C
$C
$C
$FV
To calculate the per-period coupon payment:

=
Bond value = PV(coupons) + PV(face value)

Bond value = PV(annuity) + PV(single cash flow)
=
1
1
1+
1+
C = Per-period coupon payment

r = Per-period yield
n = Number of periods
FV = Face value
15
16
Example: Annual coupons
Example: Annual coupons
Consider a bond with a coupon rate of 10% and

coupons paid annually. The par value is $1000 and the
bond has 5 years to maturity. The yield to maturity is
11%. What is the value of the bond?
t=0
Solution:
Number of coupon payments (n):
Per-period coupon payment (C):
=5
= 10% $1,000 = $100
Per-period yield (r):
Face value (FV): $1,000
17
= 11%
t=1
t=2
t=3
t=4
t=5
$100
$100
$100
$100
$100
$1,000

= 1 1+ + 1+
100
1
1,000
=
1
+
0.11
1 + 0.11 5
1 + 0.11 5
= 369.59 + 593.45 = $963.04
18
9/03/2016
Example: Semi-annual coupons
Consider a bond with a coupon rate of 7% and coupons paid

semi-annually. The par value is $1000 and the bond has 7 years
to maturity. The yield to maturity is 8%. What is the value of
the bond?
Solution:
Per-period coupon payment (C):
Example: Semi-annual coupons

t=0
=
=
7% $1,000
2
8%
2
= $35
= 4%
Outback Corporation has bonds on the market with ten

and a half years to maturity, a YTM of 6.9% and a current
price of $1,070. The bonds have a face value of $1,000
and make half-yearly payments. What is the semi-annual
coupon payment? What must the coupon rate be on
Outbacks bonds?
t=4
t = 14
$35
$35
$35
$35
$35
$1,000

= 1
+
1+
1+
35
1
1,000
=
1
+
0.04
1 + 0.04 14
1 + 0.04 14
= 369.71 + 577.48 = $947.18
Example: Solving for C

t=0
t=1
t=2
t=3
t=4
t = 21
$C
$C
$C
$C
$C
$1,000
Solution:
= 2 10.5 = 21
6.9%
2
$1,070 =
= 3.45%
21
1
1
1+
1
1
0.0345
1 + 0.0345
= $39.24
1+
21
1,000
1 + 0.0345
21
22
t=3
20
t=2
= 2 7 = 14
19
t=1
Relationship between bond price, YTM and

coupon rate
Annual coupon rate:

$1,000
$39.24 =
2
2 $39.24
=
= 7.85%
$1,000
23
Bond trades
at
Price and Face

value
YTM and Coupon rate
Premium
Price > Face value
YTM < Coupon rate
Par
Price = Face value
YTM = Coupon rate
Discount
Price < Face value
YTM > Coupon rate
24
9/03/2016
Example: Relationship between bond price,

YTM and coupon rate
The Barramundi fishing company is issuing a bond with

ten years to maturity. The Barramundi bond has a face
value of $1,000 and an annual coupon of $80. Similar
bonds have a yield to maturity of 8%. Is the Barramundi
bond selling at par, premium or discount?

YTM and coupon rate
Does your answer change if the Barramundi bond pays an annual

coupon of $60?
Since the yield to maturity = coupon rate, the bond is selling at

par.
1
+
1+
1+
80
1
1,000
=
1
+
0.08
1 + 0.08 10
1 + 0.08
= 536.81 + 463.19 = $1,000
The coupon rate is 6%. Since yield to maturity > coupon rate, the bond
is selling at a discount.
26

YTM and coupon rate
How about $100?
Discount, Par and Premium
The coupon rate is 10%. Since yield to maturity < coupon rate, the bond
is selling at a premium.
1
+
1+
1+
100
1
1,000
=
1
+
0.08
1 + 0.08 10
1 + 0.08
= 671.01 + 463.19 = $1,134.20
10
27
The coupon rate is fixed and simply determines what the bonds
coupon payments will be. The yield to maturity is what the market
demands on the issue, and it will fluctuate through time.
You cannot determine if a bond is a good investment based on
whether it is selling at a discount, par or premium.
Example: Consider the following bonds. Each bond has 10 years to
maturity and pays coupons annually.
=
1+
10%
Bond C
10%
Coupon payment
$80
$100
$120
Face value
$1,000
$1,000
$1,000
Price
$877.11
$1,000
$1122.89
Discount
Par
Premium
Suppose Digger Ltd issues a $1,000 face value, five-year

zero coupon bond. The initial price is set at $497. What is
the yield to maturity of the bond?
Solution:
We are solving for the yield to maturity, or r.
1+
$1,000
$497 =
1+ 5
1/5
$1,000
=
1 = 15%
$497
=
r = Per-period yield
n = Number of periods
FV = Face value
29
Bond B
10%
Example: Zero-coupon bonds
A bond that pays no coupons, and thus is initially priced

at a discount.
The price of an n-year zero-coupon bond is:
Bond A
YTM
28
Zero-coupon bonds
10
10
25
1
+
1+
1+
60
1
1,000
=
1
+
0.08
1 + 0.08 10
1 + 0.08
= 402.60 + 463.19 = $865.79
This is equivalent to finding the present value of a single cash

flow.
30
9/03/2016
Real rate of interest: change in purchasing power.

Nominal rate of interest: quoted rate of interest, change
in purchasing power and inflation.
The ex ante nominal rate of interest includes our desired
real rate of return plus an adjustment for expected
inflation.
The Fisher effect: defines the relationship between real

rates, nominal rates and inflation:
1 + = 1 + (1 + )
Approximation:
31
32
Example: Inflation and interest rates
If we require a 10% real return and we expect

inflation to be 8%, what is the nominal rate?
Nominal = (1.1)(1.08) 1 = .188 = 18.8%
Approximation: Nominal = 10% + 8% = 18%
Because the real return and expected inflation are
relatively high, there is a significant difference between
the actual Fisher effect and the approximation.
Interest rate risk
1.
2.
33
The longer the time to maturity, the greater the

interest rate risk.
The lower the coupon rate, the greater the interest
rate risk.
34
Example: Interest rate risk
Interest rate risk: The risk that arises for bond

owners from fluctuating interest rates. Assuming all
other things being equal,
Example: Interest rate risk
Both Bond Bill and Bond Ted have 8% coupons, make halfyearly payments, have a $1,000 face value, and are priced
at par value. Bond Bill has three years to maturity,
whereas Bond Ted has twenty years to maturity. Which
bond has more interest rate risk?
Bond J is a 4% coupon bond. Bond S is a 10% coupon

bond. Both bonds have eight years to maturity, $1,000
face value, make half-yearly payments, and have a YTM of
7%. Which bond has more interest rate risk?
Bond
Bond
YTM = 8%
3-year
$1,000
20-year
$1,000
YTM = 7%
YTM = 9%
YTM = 5%
YTM = 6%
4% coupon
$818.59
$719.15 (12.1%)
$934.72 (+14.2%)
$949.24 (-5.1%)
$1,054.17 (+5.4%)
10% coupon
$1,181.41
$1,056.17 (10.6%)
$1,326.38 (+12.3%)
$828.41 (-17.2%)
$1,231.15 (+23.1%)
YTM = 10%
35
Bond J (4% coupon) has higher interest rate risk.
Bond Ted (20-year bond) has more interest rate risk.
36
9/03/2016
The term structure is the relationship between the

term to maturity and interest rate for securities in the
same risk class.
The term structure is illustrated by the yield curve,
which plots bond yield against term to maturity.
Determinants of term structure:
Market expectations hypothesis

Liquidity premium hypothesis
37
38
Market expectations hypothesis
Interest rates are set so investors can expect to receive, on

average, the same return over any future period, regardless of
the security in which they invest.
Long and short-term rates are perfect substitutes.
The observed long-term rate is a function of todays short
term rate and expected future short-term rates.
39
The yield curve has an upward bias built into the long-term rates
because of the risk premium
Forward rates are not equal to expected future short-term

rates
40
Credit risk and Credit ratings
Australian Treasury securities are widely regarded

to be risk free; it is highly unlikely that the
government will default on these bonds.
With corporate bonds, the bond issuer may
default.
Credit risk: the risk of default by the issuer.
Credit rating: the assessment by a credit rating
agency of the creditworthiness of the corporate
issuer
41
Although future interest rates are set by investors

expectations, investors need to be given some reward (liquidity
premium) for taking the extra risk involved in longer term
securities
May explain why yield curves generally upwards sloping
If interest rates are expected to rise, long-term interest rates will be

higher than short-term rates to attract investors.
If interest rates are expected to drop, long-term interest rates will be
lower than short-term rates.
Liquidity premium hypothesis (interest rate risk)
E.g. Standard & Poors (S&P), Moodys Investors

Service, Fitch Ratings
Encourages widespread investor participation
42
9/03/2016
Credit ratings
Credit ratings
High grade
Moodys Aaa, Fitch AAA and S&P AAAcapacity to pay is extremely

strong.
Moodys Aa, Fitch AA and S&P AAcapacity to pay is very strong.
Medium grade
Moodys A, Fitch A and S&P Acapacity to pay is strong, but more

susceptible to changes in circumstances.
Moodys Baa, Fitch BBB and S&P BBBcapacity to pay is adequate,
adverse conditions will have more impact on the firms ability to pay.
Low grade
Moodys Ba, B ,Caa and Ca

Fitch BB, B, CCC and CC
S&P BB, B, CCC
Considered speculative with respect to capacity to pay. The B ratings are the
lowest degree of speculation.
Very low grade
Moodys C, Fitch C and S&P Cincome bonds with no interest being paid.
Moodys D, Fitch DDD, DD and D, and S&P Din default with principal and
interest in arrears.
43
44
Equity valuation
More difficult to value in practice than a bond:

1.
2.
3. Equity Valuation
45
Equity terminology
3.
Promised cash flows are not known in advance

Life of the investment is essentially forever; there is no
maturity for an ordinary share
No way to observe the rate of return required by the market
46
Equity terminology
Return from an equity investment comes from two

sources:
1. Dividend payments
Payment made to shareholders

Future dividends are uncertain and not guaranteed
Sale price
2.
47
Cash flow occurs when the stock is sold

Market price on the stock exchange
Market price is not known with certainty before sale
48
9/03/2016
Equity terminology
Equity terminology
Equity cost of capital (rE): The expected return of other

investments available in the market with equivalent risk to
the firms share.
49
50
Equity terminology
Equity valuation approach
The expected total return of a share should equal its

equity cost of capital
Total return from equity ownership can be separated into
two components:
2.
1 + 1
1 1 0
1=
+
0
0
0
3.
52
Dividend Discount Model
Example: One-year investor
A one-year investor
Determine the expected cash flows

Consists of expected dividend payments and a final share
price
Estimate a discount rate by comparison to a traded,
benchmark asset with similar type of risk
Benchmark against the market, which does not have

idiosyncratic risk
Adjust the rate for each stocks systematic risk relative

to the market
Compute the present value
51
In general, we value an equity as follows:

1.
Dividend yield: a shares expected cash dividend divided by its

current price
Capital gain yield: the change in stock price as a percentage of
the initial price
Total Return = Dividend yield + Capital gain rate
=
This is the discount rate for equity
Value of the stock today: P0

Expects to receive a dividend of Div1 in one year and sell the
stock for P1
t=0
t=1
t=2
t=3
t=n
Suppose you are thinking of purchasing the stock of

Moore Oil, Inc. and you expect it to pay a $2 dividend in
one year and you believe that you can sell the stock for
$14 at that time. If you require a return of 20% on
investments of this risk, what is the maximum you would
be willing to pay?
t=0
P0
Div1
P1
P0
0 =
53
1 + 1
1 +
t=1
Div1= $2
P1= $14
t=2
t=n
t=3
0 =
1 + 1
1 +
$2+$14
1+0.20
= $13.33
54
9/03/2016
An n-year investor

Expects to receive a dividend of Div1 each year through to time
n. At time n, will receive a final dividend and sell the stock for
Pn.
t=0
P0
t=1
t=2
t=3
t=n
Div1
Div2
Div3
Divn
Pn
0 =
1
1+
2
1+ 2
+ +
P0
Div1
Div2
Div3
Div
1
2
+
1 +
1 +
3
1 +
t=0
t=1
$1
t=2
t=3
t=
$1
$1
$1
P0
We assume that in the long run, dividends grow at a constant

rate.
Constant dividend growth model: A model for valuing a share
by viewing its dividends as a constant growth perpetuity
0 =
1
$1
=
= $10
0.10
58
Example: Dividend Discount Model

BDF has just paid a dividend of $2.20 per share, which
is expected to grow at 4% per year in the future.Your
required rate of return is 11%. What is the value of a
share?
t=0
t=1
t=2
t=3
Example: Solving for r
CEG has a current share price of $46 and plans to pay

$2.30 per share in dividends in the coming year. If
dividends are expected to grow by 2% per year in the
future, what is DFHs equity cost of capital?
t=
$2.30
$46 =
0.02
$2.30
=
+ 0.02 = 7%
$46
0 =
$2.20(1.04) $2.20(1.04)2 $2.20(1.04)3

P0
0 =
59
t=
ACE is offering a constant dividend of $1. Your required

rate of return is 10%. What is the value of a share?
The price of the share is equivalent to the present value of all

of the expected future dividends it will pay
57
t=3
Example: Dividend Discount Model
Estimating these dividends is difficult
t=2
56
Dividend discount model: A model that values shares

according to the present value of the future dividends the
firm will pay.
t=1
0 =
1+

Expects to receive a dividend each year in perpetuity.
t=0
55
An infinite horizon investor
1
$2.20(1.04)
=
= $32.69
0.11 0.04
60
10
9/03/2016
Example: Two-stage model
EGI will pay an annual dividend of $0.65 one year from now.
Analysts expect this dividend to grow at 12% per year
thereafter until the fifth year. From year 6, the firm will pay a
dividend of $0.80 forever. What is the value of a EGI share of
the firms equity cost of capital is 8%?
Solution:
0 =
1
1+
1
1+
1+
$0.65
1.12
1
0.08 0.12
1.08
= $3.24 + $6.81
= $10.05
=
Earnings per share (EPS): Measures firm profitability. It

is total earnings normalised by the number of shares
outstanding.
$0.80
0.08
+
1 + 0.08
62
Dividend payout rate = 66%

EPS
(153c)

DPS
(101c)
EPS
growth
(9.36c)
Dividend per share can be computed as
=
Retention rate = 34%
Assume the dividend payout rate is constant, then
Retained
profit
(52c)
EPS in the next period increases by 9.36c, which will be

available for distribution as dividends or ploughed back
into the firm
An estimate for earnings growth is an estimate for

dividend growth.
63

Assuming dividends are paid from earnings, estimating
dividend growth requires estimating earnings growth
Use accounting measures to:
Determine the amount of earnings retained
for new investment
Determine the return on this new
investment
+1
+1

+1
=
=
Return on new
investment = 18%
65
Return on new investment: Measures the ability of a firm to turn

investment into earnings. It is the ratio of new earnings to new investment.
+ = 1
How do dividends grow?
Dividend payout rate: The fraction of earnings that a firm pays as

dividends
Retention rate: The fraction of earnings that a firm retains for new
investment.
61
Earnings can be used to pay out dividends or they can be

retained within the firm for future investment
64
Assuming the dividend payout rate is constant, the

dividend growth rate can be expressed as follows:
=
= 1
RONI: Return on new investment
66
11
9/03/2016
Understanding dividend growth

Year
Assets
Earnings
Asset produce
earnings
EPS
Dividends
Year
Some earnings paid

as dividends
EPS x Payout
Assets
Some earnings
reinvested in the firm
Historical
Earnings
Dividends
EPS
EPS x Payout
Assets in year t+1 comprise

both historical and new assets
t+1
New Investment
EPS x (1 - Payout )
EPS x (1 - Payout )
67
68
Assets
Year
Earnings
Dividends
EPS
EPS x Payout
Analysing the example shows that the growth in

dividends is:
Historical
Historical assets
produce historical EPS
t+1
New Investment
EPS x Payout
EPS
Historical assets
have return on
new investmentEPS x (1 - Payout)
x RONI
EPS x (1 - Payout)
x RONI x Payout
EPS x (1 - Payout )
70
69
Example: Estimating dividend growth
A company expects to have earnings in 2014 of $19.70

when it will payout 67% of earnings. The firm reinvests
retained earnings in new projects with an expected
return on investment of 18% per year. What is the
expected dividend for 2015?
2014
Limitations of the dividend-discount model
Future dividends are uncertain

It is difficult to estimate the dividend growth rate
Some firms (especially young firms) pay no dividends

Growth rates change over time
Small changes in the estimate of the dividend growth rate can
lead to large changes in the estimated share price.
2015
Earnings
$19.70
$19.70 (1.0594) = $20.87
Dividends (67%)
$19.70 67% = $13.20
$20.87 67% = $13.98
Growth
(1 67%) 18% = 5.94%
= (1 )
71
72
12
9/03/2016
Dividends and share repurchases

An illustrative problem.
Firms have two ways to pay earnings to shareholders. They may pay dividends...
Payment made to each equity shares owner.
or repurchase shares from existing shareholders.
A firm has enterprise value of $378 million and $22 million in cash. It would like to return
$8 million to investors. There are 10 million shares outstanding. For simplicity, assume
there are no taxes on dividends or capital gains.
Option 1: Paying $8 million dividends
Each shareholder receives a dividends of ____80cent____, after which each share is
worth __ ($378m+$22m-$8m)/10m=$39.2__
Firm purchases and retires equity shares.

All shareholders benefit.
Option 2: Repurchase $8 million in shares at $40.0 each
Selling shareholders: Receive cash for their shares resulting in a capital gain.
It will purchase ___$8m/$40=0.2m___ shares
Remaining shareholders: Retain shares that represent a greater percent stake in

the firm.
Retiring these shares will mean there are ___10m-0.2m=9.8m___ shares remaining.
Selling shareholders will receive _____$8m_______ in cash.
Remaining shareholders will have shares worth _($378m+$22m-$8m)/9.8m=$40_.
Ignoring taxes, is there an economic difference between dividends and repurchases? Why is
the share price different under the two scenarios?
Number of shares reduces after share repurchases
73
74
Investors may have a preference for dividends or share repurchases depending on

tax laws.
Over time, firms choose to pay back earnings in a tax efficient manner for
shareholders.
Australian firms favour dividends as investors prefer to receive
corresponding tax credit.
U.S. firms have moved from dividends to share repurchases over time as
investors prefer to pay lower tax rate.
Dividends apply to all shareholders. All shareholders pay taxes.

Australia: Uses an imputation tax system. Franking credits ensure total tax
paid by a shareholder is equal to the personal tax rate.
U.S.: Uses a classical tax system. Earnings first taxed at corporate level and
then taxed as income on personal level.
Share repurchases only go to shareholders that want to sell. Only selling
shareholders pay taxes on capital gain.
Australia: Capital gains taxed as income.
U.S.: Long-term capital gains taxed at a lower rate than income.
75
76
Total payout
Total Payout Model
The total amount paid by the firm to shareholders through dividends and
share repurchases.Total payout is expressed as a dollar amount for the firm
and NOT normalised by the number of shares outstanding.
The dividend discount model can be easily adapted to allow for share repurchases:
Estimate total payouts (dividends + share repurchases) to equity. Do not
normalise by the number of shares.
Use total payouts as cash flows to equity in valuation model.
Discount payouts at the cost of equity to the market value of equity.
Divide market value by current number of shares outstanding to find current
share price.
As share repurchases changes the number of equity shares outstanding, total

payout per share would not be a meaningful measure.
77
78
13
9/03/2016
Example: Total Payout Model

Assume the following for a firm...
Expected earnings at the end of this year is $520 million.
200 million shares outstanding
The firm expects to pay 30% of earnings in dividends and 15% in share repurchases.
Earnings are expected to grow by 6.6% per year and the payout rates remain constant
4. Conclusion
Equity cost of capital is 10%

What is the price of the stock using a constant growth total payout model?
Assuming constant payout rates, the total payout amount would grow at the same rate as
earnings.
1
0.3 + 0.15 $520
=
=
= $6.882
0.1 0.066

$6.882
0 =
=
= $34.41
#
200
80
79
Summary of formulae
Bonds
1
1+
1+
1+
Coupon bonds: =
Zero-coupon bonds: =
Fisher effect: 1 + = 1 + (1 + )
Equity
Dividend discount model: PV of all future dividends

Total payout model: PV of all future dividends & repurchases
= (1 )
81
14

Topic2 Valuation 6PG

Hochgeladen von

Dokumentinformationen

Copyright

Verfügbare Formate

Dieses Dokument teilen

Dokument teilen oder einbetten

Freigabeoptionen

Stufen Sie dieses Dokument als nützlich ein?

Sind diese Inhalte unangemessen?

Copyright:

Verfügbare Formate

Topic2 Valuation 6PG

Hochgeladen von

Copyright:

Verfügbare Formate

9/03/2016

FINS1613: Business Finance

Inflation and interest rates

Estimating dividend growth

Total payout model

Capital structure: Debt

Capital structure: The relative proportions of debt, equity

When a corporation (or government) wishes to borrow

Corporate bonds are issued by corporations

V = PV of cash flows generated by the firm

Considered risk free in developed countries as there is no risk of the

Considered risky as corporations may default on payments.The

Capital structure: Debt

Capital structure: Debt

Capital structure: Equity

Equity financing includes ordinary shares (common stock)

E.g. Woolworths Limited (WOW) trading on the ASX

Preference shares: Share with dividend priority over

E.g. ANZ convertible preference shares (ANZPA) trading on

Primary and secondary markets

Primary market transaction: the corporation is the seller

Public offering: involves selling securities to the general public

Secondary market transaction: involves one owner or

Secondary markets provide the means for transferring

Coupon: The promised interest payments of a bond, paid

To calculate the per-period coupon payment:

Bond value = PV(coupons) + PV(face value)

C = Per-period coupon payment

Example: Annual coupons

Example: Annual coupons

Consider a bond with a coupon rate of 10% and

Number of coupon payments (n):

Per-period coupon payment (C):

Per-period yield (r):

Face value (FV): $1,000

Bond value = PV(coupons) + PV(face value)

Example: Semi-annual coupons

Consider a bond with a coupon rate of 7% and coupons paid

Number of coupon payments (n):

Per-period coupon payment (C):

Per-period yield (r):

Face value (FV): $1,000

Example: Semi-annual coupons

Outback Corporation has bonds on the market with ten

Bond value = PV(coupons) + PV(face value)

Example: Solving for C

Bond value = PV(coupons) + PV(face value)

Number of coupon payments (n):

Per-period yield (r):

Face value (FV): $1,000

Example: Solving for C

Example: Solving for C

Relationship between bond price, YTM and

Annual coupon rate:

Price and Face

YTM and Coupon rate

Price > Face value

YTM < Coupon rate

Price = Face value

YTM = Coupon rate

Price < Face value

YTM > Coupon rate

Example: Relationship between bond price,

The Barramundi fishing company is issuing a bond with