Lyons Company began as a family stationary supply business. In the early 1990’s, document storage opportunities began to emerge. In 1993, Lyons Document Storage Corporation was incorporated and emerged into the competitive industry of off-site document storage. At this time also, the stationary supply business began to grow more competitive with big box giants like Office Max, Office Depot and Staples. Aside from these two factors, the Lyons Company had management difficulties regarding the direction of the company. The decision to focus on document storage was made and management quickly moved into expanding to meet the needs of the document storage demands.
In December 2008, Rene Cook was a new MBA and special assistant at the Lyons Document Storage Corporation. David Lyons asked Rene to come up with the possible consequences of repurchasing company bonds using cash and reissuing new bonds with a lower interest rate. Rene was tasked with focusing on how much the company’s annual interest payments could be reduced and the effect on the company’s reported earnings. She was also tasked with providing information on how the refunding would change the company’s financial position on the balance sheets. Rene gathered all useful documentation regarding the company’s financing and accounting and began her research. After an internet search, she found that to repurchase each $1, 000 bond would cost $1,154 leaving the company to spend $11.54 Million to retire bonds that were listed on the balance sheet as $9.3 million causing the 2009 projected earnings to shrink by $2.24 million and slow the growth rate of earnings. Knowing that this was not the outcome Mr. Lyons had figured, Rene determined that the lower interest payments on the new bonds would help reduce cash outflow in the future years.
After much data collection and analysis, and the development of new balance sheets, it is shown that there is not significant savings when issuing new bonds. The data shows only significant losses when considering issuing new bonds at a lower rate. If I were in Rene’s position, I would not recommend issuing new bonds. However, if presented with the option of issuing a lower number of bonds at the reduced rate of 6%, I would recommend issuing 65 bonds because of the projected final retained earnings.
1. Lyons Document Storage’s Controller, Eric Petro told the Rene that bonds were issued in 1999 at a discount and that only approximately $ 9.1 Million was received in Case. a. Explain what is meant by the term “premium” or “Discount” as they relate to bonds. Premium or discounted bonds occur when there is a difference between coupon rate and expected rate. Premium bonds are bonds where the price of the bond is higher than the par value. Discounted bonds are bonds that are lower than the par value of the bond. b. Compute exactly how much the company received from its 8% bonds if the rate prevailing at the time of Original Issue was 9% as indicated in Exhibit 2. The recomputed amount in the balance sheet in December 2006 and December 2007 are $ 9,247,261 and $ 9,280,240 c. Current market value of the bonds outstanding at the current effective Interest rate of 6%.
See Exhibit Question 1.
2. If you were Rene Cook, would you recommend issuing $ 10 Million, 6% Bonds on Jan 2, 2009 and using the proceeds and other cash to refund the existing $ 10 Million, 8% Bonds? Will it cost more in terms of Principal and Interest Payments, to keep the existing bonds or to issue new ones at a lower rate? Be prepared to discuss the impact of a bond refunding on the following areas like cash flow, current year earnings, and future year earnings. The Lyons Company can collect $10 million by issuing the new bonds. However, to repay the old bonds, the company would have to pay $11.52 million. There would be a difference of $1.52 million which would have to be paid from...
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