Solution Manual for Principles of Corporate Finance 14th Edition by Richard B...
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Investment in subordinated bond
1. First security Islamic bank Ltd (FSIB)
Security Type: Subordinated Bond
Market Lot: 20 units {BDT 500000 in each unit}
Tenure: 6-years
Yield: Half yearly at 15.76%
Redemption: 20% of the total bond value to be redeemed at the end of each year starting from 2
to 6 years.
YTM PROBABILITY
1. Base Rate = 15.76 % 50%
2. Best Case = 17.53% 25%
3. Worse Case = 14.33% 25%
Unit 20 * 500000 = 10000000
10%
. . . . .
0 1 2 3 4 5 6
For Base case 15.76%
10000000*15.76%
2
= 788000
When we will reinvest this money then we will get
To reinvest it for future we will follow
FV = PV * (1+.10) ^5.5
2. First year
1. FV = 788000*(1+.10) ^5.5 = 1331024.3 [first period)
2. FV = 788000*(1+.10) ^5 = 1269081.8 [second period]
of redemption PV will be
Second year
10000000- 2000000=8000000
8000000*15.76%
2
PV=630400
3. FV = 630400*(1.10) ^ 4.5 = 968017.6 [3rd
period]
4. FV = 630400*(1.10)^4=922968.6 [4th
period]
Third year
Because of redemption here the PV will be
8000000-2000000=6000000
6000000*15.76%
2
PV=472800
Now the FV will be
5.472800*(1.10) ^3.5=660012.0
6.472800*(1.10) ^3=629296.8
3. Fourth year
Because of redemption now the PV will be
6000000-2000000=4000000
4000000*15.76% = 315200
2
Now the FV will be
7.315200*(1.10) ^2.5=400007.3
8.315200*(1.10) ^2=381392
Fifth year
Because of redemption the PV will be
4000000-2000000=2000000
2000000*15.76%
2
=157600
Now the FV will be
9.157600*(1.10)^1.5=181821.5
10.157600*(1.10)^1=173360
Sixth year
Because of redemption the money will be 0
Total return
6916981.9
10000000-6916981.9=3083018.1
4. For best case (17.53%)
10000000*17.53%
2
= 876500
When we will reinvest this money then we will get
To reinvest it for future we will follow
FV = PV * (1+.10) ^5.5
First year
1. FV = 876500*(1+.10) ^5.5 = 1480511.1 [first period)
2. FV = 876500*(1+.10) ^5 = 1411612.0 [second period]
Second year
10000000- 2000000=8000000
8000000*17.53%
2
PV=701200
3. FV = 701200*(1.10) ^ 4.5 = 1076735.3 [3rd
period]
4. FV = 701200*(1.10)^4=1026626.9 [4th
period]
Third year
Because of redemption here the PV will be
8000000-2000000=6000000
6000000*17.53%
2
PV=525900
Now the FV will be
5.525900*(1.10) ^3.5=734137.7
5. 6.525900*(1.10) ^3=699972.9
Fourth year
Because of redemption now the PV will be
6000000-2000000=4000000
4000000*17.53%
2
PV = 350600
Now the FV will be
7. FV=350600*(1.10) ^2.5=444931.9
8. FV=350600*(1.10) ^2=424226
Fifth year
Because of redemption the PV will be
4000000-2000000=2000000
2000000*17.53%
2
=175300
Now the FV will be
9.175300*(1.10)^1.5=202241.8
10.175300*(1.10)^1=192830
Sixth year
Because of redemption the money will be 0
Total return
7693825.6
1000000-7693825.6=2306174.4
6. For worse case (14.33%)
10000000*14.33%
2
= 716500
When we will reinvest this money then we will get
To reinvest it for future we will follow
FV = PV * (1+.10) ^5.5
First year
1. FV = 716500*(1+.10) ^5.5 = 1210252.43 [first period)
2. FV = 716500*(1+.10) ^5 = 1153930 [second period]
Second year
10000000- 2000000=8000000
8000000*14.33%
2
PV=573200
3. FV = 573200*(1.10) ^ 4.5 = 880183.53 [3rd
period]
4. FV = 573200*(1.10)^4=839222.12 [4th
period]
Third year
Because of redemption here the PV will be
8000000-2000000=6000000
6000000*14.33%
2
PV=429900
Now the FV will be
5.429900*(1.10) ^3.5=600125.17
7. 6.429900*(1.10) ^3=572196.9
Fourth year
Because of redemption now the PV will be
6000000-2000000=4000000
4000000*14.33%
2
PV = 286600
Now the FV will be
7. FV=286600*(1.10) ^2.5=363712.22
8. FV=286600*(1.10) ^2=346786
Fifth year
Because of redemption the PV will be
4000000-2000000=2000000
2000000*14.33%
2
=143300
Now the FV will be
143300*(1.10)^1.5=165323.7
143300*(1.10)^1=157630
Sixth year
Because of redemption the money will be 0
Total return
5774462
10000000-5774462=4225537.46
8. Decision
We will not invest our 10000000 in subordinated bond because it will not even give us our
$10000000m back rather we could keep it in a bank on โdouble scheme fundโ where our money
will be double without any risk. Or we can search for which bond will give us higher return.
9. Assignment
On
โInvestment in subordinated bondโ
Submitted to
Md. Mozaffar Alam Chowdhury
Faculty of Finance,
College of Business Administration, IUBAT.
Submitted by
Name: Ishak
ID: 11302026
Section: D
Program: BBA
Course Name: Commercial Bank Management
Course No: FIN 402
Date of Submission: 18th
March, 2014
IUBATโInternational University of Business Agriculture and Technology