Posted: November 18th, 2021
Read the closing case “Financing East Coast Yachts’ Expansion Plans with a Bond Issue” in chapter 5 (see below) of textbook “Corporate finance: Core principles & applications. (4th ed.) by Ross, S., Westerfield, R., Jaffe, J., and Jordan, B. (2014), and answer the four questions posed on this sheet.
1. You have been asked to prepare a memo describing the effects and advantages or disadvantages of each of the following bond features on the coupon rate of a 20-year bond:
a. The security or collateral provided with the bond
b. The seniority of the bond
c. A sinking fund provision
d. A call provision
e. Any positive covenants
f. Any negative covenants
g. A conversion feature
h. A floating rate coupon
The firm is also considering whether to issue coupon-bearing bonds or zero coupon bonds. The YTM in either case is expected to be 5.5% per annum. The coupon bond would have a 5.5% per annum coupon payable semiannually. The company’s tax rate is 35%.
2. How many of the coupon bonds must East Coast Yachts issue to raise the $40,000,000? How many of the zeroes must it issue?
3. In 20 years what will be the principal repayment due if East Coast Yachts issues the coupon bonds? If it issues the zeroes?
4. After considering all the relevant factors, what would you recommend the firm do?
East Coast Yacht Case:
FINANCING EAST COAST YACHTS’ EXPANSION PLANS WITH A BOND ISSUE
After Dan’s EFN analysis for East Coast Yachts, Larissa has decided to expand the company’s operations. She has asked Dan to enlist an underwriter to help sell $45 million in new 30-year bonds to finance new construction. Dan has entered into discussions with Renata Harper, an underwriter from the firm of Crowe & Mallard, about which bond features East Coast Yachts should consider and also what coupon rate the issue will likely have. Although Dan is aware of bond features, he is uncertain as to the costs and benefits of some of them, so he isn’t clear on how each feature would affect the coupon rate of the bond issue.
Dan is also considering whether to issue coupon-bearing bonds or zero coupon bonds. The YTM on either bond issue will be 5.5 percent. The coupon bond would have a 5.5 percent coupon rate. The company’s tax rate is 35 percent.
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