CORPORATE FINANCE CASE STUDY

LYONS DOCUMENT STORAGE CORPORATION: BOND ACCOUNTING

Section D
Monika Datal (0231-52)
Nisha Singh (0251-52)
Nutal Gunjyal (0257-52)
Neha Patil (0273-52)
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Q.1)
a)
Discount Bond: A bond is considered a discount bond when it has a lower interest rate than
the current market rate, and consequently is sold at a lower price. In the Lyons Bond
Accounting example, the bond is issued at an interest rate of 8% (which is lower than the
market interest rate of 9%) and hence it is a discount bond
Premium Bond: A bond will trade at a premium when it offers a coupon rate that is higher
than prevailing interest rates. This is because investors want a higher yield, and will pay more
for it.
b)
Coupon rate: 8% paid semiannually
Market Yield: 9% (i.e. 4.5% semiannually)
Bonds Issue: 10,000,000
No. of semiannual periods: 40 (20*2)
Coupon Amount = ((8/2)/100)*(10,000,000)
Bond Value at Period 0
1
1+ r

1+ r

FV
1+
C

R
= (

40

400000
1
10000000
) 1(
) +
40
0.045
1+ 0.045
(1+0.045)

= 9079920.78
= $9.097 million
c) In order to calculate the outstanding debt at 31st Dec06,
We will first calculate the value of debt repaid by 31st Dec06 at Period 0
*Number of semiannual periods: 15
Value of amount paid till 31st Dec06, calculated at period 0
1
1+r

=
1
C

= (

15

400000
1
) 1(
)
0.045
1+ 0.045

= 4295818.29
Loan balance at Period 0 = 9079920.78 4295818.29
= $ 4784102.49
Now, the value of debt outstanding on 31st Dec06
1+ r

=
( Loanbalance at Period 0 )( 15 )
1+ 0.045

=
( 4784102.49 )( 15 )
= $ 9258589.552
* Because in considering long term debt we assume that 15th installment is paid even if only
14 installments have been paid, while 15th installment will be part of current liabilities for
FY 2006-07
Similarly to calculate the outstanding debt at 31st Dec07,
We will first calculate the value of debt repaid by 31st Dec07 at Period 0
**Number of semiannual periods: 17
Value of amount paid till 31st Dec07, calculated at period 0
1
1+r

=
1
C

R
= (

17
400000
1
) 1(
)
0.045
1+ 0.045

= $4682876.57
Loan balance at Period 0 = 9079920.78 4295818.29
= $4397044.21
Now, the value of debt outstanding on 31st Dec07
1+ r

=
( Loanbalance at Period 0 )( 17 )

1+ 0.045

=
( 4397044.21 )( 17 )
= $9292611.25
** Because in considering long term debt we assume that 17th installment is paid even if only
16 installments have been paid, while 17th installment will be part of current liabilities for
FY 2007-08)
d)
Market rate per annum= 6%
Face value= 10,000,000
Coupon rate per annum (paid semi annually) = 8%
Coupon amount = 400000
*Number of periods remaining after December 2008 = 21
Bond Value in Dec08
1
1+ r

1+ r

FV
1+
C

)[ (

400000
1
1
=
0.030
1+ 0.03
=$11541502.41

) ]+ 10000000
(1+ 0.03 )
21

21

*Calculated with number of installments remaining 21

Q.2)
Effect on Cash Flows
In case of repurchase of bonds, there will be an additional cash outflow of
= 11,541,500-10,000,000
= $1,541,500
Effect on Current Year Earnings
Number of semiannual periods at Dec, 2008 =19
Value of Bonds outstanding at period 0

1
1+r

=
1
C

R
= (

19

400000
1
) 1(
)
0.045
1+ 0.045

= 5037317.437
Loan balance at Period 0
=9079920.78 5037317.437
=4042603.342
NPV of the Loan Outstanding
1+ r

=
( Loanbalance at Period 0 )( 19 )
1+ 0.045

=
( 4042603.342 ) ( 17 )
= 9329763.80
Reduction in current year earing
= 11,541,500 9329763.80
= $2211736.2
Effect on Cash Flow
Cash outflow for the current year would be affected. Also the savings from in cash outflow
would get spread over 10 years i.e. the savings from interest and principal repayment.
Effect on Future Year Earnings
In the future, the earnings for each period will reduce by $100,000 till July 2019. Also, one
last payment of $400,000 is effectively saved as the new bonds retire 6 months earlier
Overall impact on Bond Refunding
No, issuing new bonds is not a profitable proposition since the NPV of the effective savings
from the future cash flows from issuing the new bonds is less than the NPV of the amount
paid for retiring the existing bonds.
100% funding from bond issue: $11,541,500
Par value: $1000
Bonds to be issued: 11542
Q3)
If reissuing bonds at 6% coupon rate $10,000,000 can be raised by issuing new bonds and
$11,541,500 is used to retire the older bonds. Thus $1,541,500 is the loss.
In order to compensate for the loss 11542 bonds will have to be issued so as to have $0 loss.
Any number of bonds issued below this threshold will impact in a loss!
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