Personal Finance

How to Figure Out the Total Bond Interest Expense

Companies that have access to the credit markets routinely issue bonds to raise capital. When they do, they take on a financial obligation that can last for years or even decades. It's therefore important to calculate exactly how much in total bond interest expense a company will take on when it offers a bond. With some bonds, it's simple to figure out total bond interest expense, but with others, it's impossible to know with certainty.

A simple answer for traditional bonds

Most bonds involve companies paying a specified interest rate for the stated length of time between when the company issues the bond and its maturity. To figure out the total interest paid, you take the face value of the bond, multiply it by the coupon interest rate, and then multiply that by the number of years corresponding to the term of the bond.

For instance, say a company issues a five-year bond with a face value of $1,000 and a 2% interest rate. The total bond interest expense will be $1,000 x 2% x 5 years, or $100. The company will typically pay that $100 in semiannual interest payments of $10 spaced six months apart.

A tougher answer for other types of bonds

Bonds other than traditional bonds involve more uncertainty. For example, many bonds don't carry a fixed interest rate, with floating interest rate payments that are determined by reference to changing benchmark rates in the credit markets. For instance, a bond might carry an interest rate equal to the prime lending rate. Based on current rates, such a bond might pay 3.25% interest, or $16.25 for a $1,000 bond's semiannual payment. But in the future, if rates go up, then the interest expense automatically rises to adjust to the changing conditions. It's therefore impossible to know upfront what the total expense will be.

Similarly, inflation-adjusted bonds also have unpredictable payment streams. Typically, these bonds will have a fixed interest rate, but the face value adjusts according to changes in inflation. For instance, a $1,000 inflation-adjusted bond with a 1% coupon rate might pay $5 in a semiannual payment if inflation doesn't change. But if inflation climbs 1% in the first six months, that first payment would be based on a face value of $1,010 rather than $1,000, and so the payment would be $1,010 x 1% / 2 = $5.05.

Finally, not all bonds have a fixed maturity date. Companies can pay off callable bonds earlier than their final maturity date, and so the total interest can be less if the company exercises its right to do so. Similarly, convertible bonds give investors the chance to convert their bonds to stock in a company, and some bonds give bondholders the right to choose the time at which they wish to do so.

With any bond, you can at least get a ballpark range of likely total bond interest expense by looking at worst-case and best-case scenarios. You might not get the precision a fixed bond offers when you consider a variable-rate, inflation-adjusted, callable, or convertible bond, but it will still achieve the purpose of providing a rough sense of how much issuing a bond will cost the company.

The $15,978 Social Security bonus most retirees completely overlook

If you're like most Americans, you're a few years (or more) behind on your retirement savings. But a handful of little-known "Social Security secrets" could help ensure a boost in your retirement income. In fact, one MarketWatch reporter argues that if more Americans knew about this, the government would have to shell out an extra $10 billion annually. For example: one easy, 17-minute trick could pay you as much as $15,978 more... each year! Once you learn how to take advantage of all these loopholes, we think you could retire confidently with the peace of mind we're all after. Simply click here to discover how you can take advantage of these strategies.

This article is part of The Motley Fool's Knowledge Center, which was created based on the collected wisdom of a fantastic community of investors based in theFoolsaurus. Pop on over there to learn more about our Wiki andhow you can be involved in helping the world invest, better! If you see any issues with this page, please email us atknowledgecenter@fool.com. Thanks -- and Fool on!

The article How to Figure Out the Total Bond Interest Expense originally appeared on Fool.com.

Copyright © 1995 - 2015 The Motley Fool, LLC. All rights reserved. The Motley Fool has a disclosure policy .

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.


The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

Other Topics

Stocks

Latest Personal Finance Videos

    #TradeTalks: A Holistic Financial Picture to Give a True Indicator of your Financial Health

    Harvest Founder Nami Baral joins Jill Malandrino on Nasdaq #TradeTalks to discuss the Harvest PRO Index, holistic financial picture to give a true indicator of your financial health, not just a credit score.

    Oct 9, 2020

    The Motley Fool

    Founded in 1993 in Alexandria, VA., by brothers David and Tom Gardner, The Motley Fool is a multimedia financial-services company dedicated to building the world's greatest investment community. Reaching millions of people each month through its website, books, newspaper column, radio show, television appearances, and subscription newsletter services, The Motley Fool champions shareholder values and advocates tirelessly for the individual investor. The company's name was taken from Shakespeare, whose wise fools both instructed and amused, and could speak the truth to the king -- without getting their heads lopped off.

    Learn More