INTRODUCTION
Norman Cahill, financial president of Seminole Gas and Electric, is reviewed the minutes of the last meeting of the firm’s board of directors. The major topic discussed was whether Seminole should refund a $500 million issue of 26 years, 16 percent, mortgage bonds issued 11 months earlier. Three of the board members had taken markedly different positions on the questions.
The bonds were issued when the interest rates were at their peak but the BODs thought that it would decline and insisted on a call premium of 10 percent if any bonds were called during the first year, with the premium declining by 0.5 percent a year until the 20th year, after which the bond could be called with no premium. Furthermore, Cahill estimated that company could sell a new issue of bond at an interest rate of 12.5 percent. The floatation cost on the refunding issue would be approximately 0.5 to 1 percentage point of issue, and there would be the period of approximately three weeks during which both issue would be outstanding, during which the excess funds could be invested in short-term treasury securities yielding to 10 percent.
After the $500 million was sold, Chaill anticipated a decline in interest rates so the bonds made immediately callable. The investment bankers handling the issue wanted Seminole to make the bonds non-callable for 5 year period. The bankers insisted on call premium of 10 % if any bonds were called during the first year, with the premium declining by 0.5 % a year the 20 thyear, after which the bonds could be called with no premium.
Seminole could sell a new issue of 25 year bonds at an interest rate of 12.5 %. The call of old and sale of new bonds take place in about five to seven weeks. The flotation cost on refunding issue would be approximately 0.5 to 1 percentage and there would be a period of approximately 3 weeks during which both issues