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Baxter Co. wants to issue new 20-year bonds for some much-needed expansion projects. The company currently has 5.6 percent coupon bonds on the market that sell for $1,094.30,page 160 make semiannual payments, and mature in 20 years. What coupon rate should the company set on its new bonds if it wants them to sell at par

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Answer:

The coupon rate the company should set on its new bonds if it wants them to sell at par is 4.86%.

Explanation:

The coupon rate can be determined by calculating the yield to maturity (YTM) using the following RATE function in Excel:

YTM = RATE(nper,pmt,-pv,fv) * Number of semiannuals in a year = RATE(nper,pmt,-pv,fv)*2 .............(1)

Where;

YTM = yield to maturity = ?

nper = number of periods = number of years to maturity * number of semiannuals in a year = 20 * 2 = 40

pmt = semiannual coupon payment = face value * (annual coupon rate / number of semiannuals in a year) = 1000 * (5.6% / 2) = 28

pv = present value = current bond price = $1,094.30 = 1094.30

fv = face value of the bond = 1000

Substituting the values into equation (1), we have:

YTM = RATE(40,28,-1094.30,1000)*2

Inputting =RATE(40,28,-1094.30,1000)*2 into excel (Note: as done in the attached excel file), we have

YTM = 4.86%

Therefore, the coupon rate the company should set on its new bonds if it wants them to sell at par is 4.86%.

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