Term loans/Bonds, Hybrid

Financing
Example 1 – Term loans
• Hindustan copper Industries (HCI) manufactures copper pipe. It is
contemplating calling Rs.3 crore of 30-year, Rs.1000 bonds issued 5 years ago,
with a coupon interest rate of 14%. The bonds have a call price of Rs.1,140
and had initially collected proceeds of Rs.2.91 crore due a discount of Rs.30
per bond. The initial floatation cost Rs.3,60,000. the HCI intends to sell Rs.3
crore of 12% coupon interest rate, 25 year bonds to raise funds for retiring the
old bonds. It intends to sell the new bonds at their par value of Rs.1000. The
estimated floatation costs Rs.4,40,000. HCI is in 35% tax bracket and its after
cost of debt is 8%. As the new bonds must first be sold and their proceeds
then used to retire the old bonds, the HCI expects a 2-month overlapping
interest during which interest must be paid on both the old and the new
bonds. Analyse the feasibility of the bond refunding by the HCI
Example 2: Preference shares
• Delhi Manufacturing company (DMC) is considering refunding its
preference shares. They have a par value of Rs.100 and a stated
dividend of 12%. The call price is Rs.104 per share, and 5,00,000
shares are outstanding. The DMC can issue new preference shares at
11%. The new issue can be sold at par, the total par value being Rs.5
crore. Floatation costs would be Rs.13,60,000. Marginal tax rate is
35%. A 90 day period of overlap is expected between the time the
new preferences share are issued and the time the existing
preference shared are retired. Should the DMC refund its preference
shares?
Example 3: Options-Call
• Assume an investor pays Rs.2,500 for a 3-month call option on
Reliance Industries at a striking price of Rs.500. By paying Rs.2,500,
the investor is entitled to purchase 100 shares of RI at Rs.500 per
share at any time during the next 3 months.
• What does it imply?
• How much should be the minimum increase in share price to cover
the cost of option?
• How much would be the gain of the investor if the price increases to
Rs.600 ?
Example 3: Options-Put
• Assume an investor pays Rs.3,250 for a 3-month put option on
Reliance Industries at a striking price of Rs.400. The investor is sure
that he can sell 100 shares for Rs.400 at any time during the next 3
months by paying the option money.
• What is the minimum decline in price should be to cover the cost of
option?
• In case the share prices drop to Rs.300 during the three month
period, what would be the net profit(or loss) of the investor?
• What happens if the price increases beyond Rs.400?