f. Explain to King Solomon what call provisions and sinking fund provisions are and how these provisions are expected to affect the risk of the bond g. Which value will you place on a bond of Zenzo Pharma Ltd?

Essentials Of Investments
11th Edition
ISBN:9781260013924
Author:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Publisher:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Chapter1: Investments: Background And Issues
Section: Chapter Questions
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King Solomon is a rich farmer in Tetebia, a town in the Asou Municipal Assembly. He owns
over 100,000 hectares of farmlands. However, he fears the worst might happen and wants to do
some investments to secure his future and that of his children. He is contemplating some long
term investments he could undertake to secure his future and that if his children. He is now 50
years old and he plans to retire in 10 years from active farm work. He expects to live for another
25 years after he retires –that is, until age 85. He was advised by a friend that an investment in
the financial market will help him plan his retirement well. He has no idea about financial
markets and how they operate. You recently graduated and have just reported to work as an
investment advisor at the brokerage firm of Cenden Ltd. King Solomon has approached your
company for advice. Your boss after a discussion with King Solomon could gather the following
information. King Solomon wants his first retirement payment to have the same purchasing
power
at the time he retires as GHȼ 40,000 has today. He wants all of his subsequent retirement
payments to be equal to his first retirement payment. (Do not let the retirement payments grow

with inflation: King Solomon realizes that the real value of his retirement income will decline
year by year after he retires.) His retirement income will begin the day he retires, 10 years from
today, and he will then receive 24 additional annual payments. Inflation is expected to be 5%
per year from today forward. He currently has GHȼ 100,000 saved up, and he expects to earn a
return on his savings of 8% per year with annual compounding.

Again, he wants to have a secure university education for his lovely daughter Daisy. His
daughter is now 13 years old. She plans to enroll at the University of Professional Studies, Accra
in 5 years, and it should take her 4 years to complete her education. Currently, the cost per year
(for everything – her food, clothing, tuition, books, transportation, and so forth) is GH¢ 12,000
per year. This cost is expected to remain constant throughout the four-year university education.
The daughter recently received GH¢ 7,500 from her grandfather’s (King David’s) estate; this
money will be invested at a rate of 8% to help meet the costs of Daisy’s education. The rest of
the costs will be met by money King Solomon will deposit in a savings account which also earns
8 percent compound interest per year. He will make 5 equal deposits into the account, one
deposit per annum starting one year from now until his daughter starts university. These deposits
will begin one year from now. (Assume that school fees are paid at the beginning of the year).

Again, King Solomon is interested in buying a bond issued by Zenzo Pharma Ltd. Zenzo Pharma
intends to use the proceeds of the bonds to finance the production of its new vaccine for COVID
19. The bond has a face value of GH¢10,000 at a coupon rate of 12% and a term to maturity of
10 years. The bond expects to pay coupons annually. Included in the bond indenture are call and
sinking fund provisions. The required rate of return on the market for bonds with similar features
is 18% per annum. Your boss had asked you to advice King Solomon based on the information
he provided

f. Explain to King Solomon what call provisions and sinking fund provisions are and how
these provisions are expected to affect the risk of the bond
g. Which value will you place on a bond of Zenzo Pharma Ltd?
Transcribed Image Text:f. Explain to King Solomon what call provisions and sinking fund provisions are and how these provisions are expected to affect the risk of the bond g. Which value will you place on a bond of Zenzo Pharma Ltd?
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