Question

Laurinburg Precision Engineering to manufacture precision injection-molded parts for use in medical devices. After an uncertain start- up period, the company won contracts from several different manufacturers. Using special machinery and expertise in injection molding of specialty plastics, the company prospered. In early 2004, the company was experiencing a cash crisis caused by rapid growth and the desire to extend capabilities through the acquisition of new molding machines. The partners had no additional capital to finance the expansions, and they were reluctant to sell equity to anyone else. A bank loan was considered, but financial projections indicated the loan could not be paid down for almost five years. Because of prevailing interest rates, local banks were unwilling to make a loan commitment of that duration. Their local bank had introduced MacKinnon and McDougald to a small investment banking firm in Charlotte, North Carolina. After a consultation with MacKinnon and McDougald, Sheila C partner in the investment banking firm, suggested a S1 million bond issue with a term The bond issue would be secured by the new machinery and placed with private investors. Cox old MacKinnon and McDougald that she expected the bonds would have to be sold to yield almost 10% interest. She proposed setting the interest rate on the bonds at 10% with semiannual interest ayments and the principal due at the end of the fifth year, and she prepared a schedule of the interest and principal repayments that would be due if the bonds were sold to yield 10% interest exactly (see Exhibit 1). seemed to be a reasonable solution to the problem facing MacKinnon and Although the proposal McDougald, both were worried about the semiannual interest payments in the early years. They expected operating cash flows would remain tight as I continued to they expressed this concern to Cox by telephone, she suggested a second altemative. same interest rate and terms. Laurinburg Precision Engineering could issue zero-coupon bonds at the On these bonds no interest outstanding, and all interest and j matured. The principal amount of the zero-coupon bor bonds, but Laurinburg would have five operations or additional financing payments would be made during the five years the bonds would be ncipal would be due on January 15, 2009, when the bonds bonds would be greater than that of the 10% years to prepare to pay interest and principal from either