Question

1. You are the CFO of Ford Motors Inc. The firm has decided to purchase new fixed assets that will allow them to more efficiently produce electric cars. To raise the funds needed to purchase these assets, you decide to issue bonds. You expect the new fixed assets to last about 15 years so you’d like to issue bonds with a maturity of 15 years and a face value of $1,000. To set the coupon payment, you ask Moody’s what the credit rating is for bonds of this maturity and risk. They tell you they will rate your bonds AA which have a 7% return per year, so you set the coupon at $70 per year.

1a. What is the present value of the bond Ford is offering?

1b. One year later, market interest rates on bonds of similar maturity and risk fell to 5%. If you were an investor purchasing this Ford bond in the secondary market, what price should you pay?

Answer 1

1-
Value of Bond
PVAF at 7% for 15 years	1-(1+r)^-n /r	1-(1.07)^-15/7%	.6375/7%	9.1079
PVF at 7% at 15th years	1/(1+r)^n	1/(1.07)^15		0.36244602
1- value of bond = (coupon payment*PVAF)+(face value*PVF)	(70*9.107914)+(1000*.3624)	1000
2-
Value of Bond
PVAF at 5% for 14 years	1-(1+r)^-n /r	1-(1.05)^-14/5%	.6375/7%	9.8986
PVF at 5% at 14th years	1/(1+r)^n	1/(1.05)^14		0.505067953
1- value of bond = (coupon payment*PVAF)+(face value*PVF)	(70*9.8986)+(1000*.505067)	1197.97