Original Issue Discount (OID)

What is an original issue discount?

An original issue discount (OID) is when companies sell bonds at a discount to their face value. Bonds are once in a while sold at a cost that is not exactly its stated value at maturity; the difference is the OID, which turns into extra interest income that gathers to the buyer assuming she holds it to maturity.

More profound definition

At the point when interest rates are high, companies that might want to sell bonds face the prospect of being left with high interest payments over the life of the bond. Interest rates ultimately decline, and longer-life, high-interest bonds might possibly burden the issuer's cash flow with above-market-rate payments. Selling long-maturity, low-coupon or zero-coupon bonds at a discount takes care of this problem.
There are two types of OID bonds: Those that have a coupon and those that don't. OID bonds that incorporate a coupon furnish investors with standard interest payments yet have a price that is below the face value of the bond. OIDs without a coupon are called a zero-coupon bonds, and the discount is generally equivalent to the yield to maturity, or the amount that would have been paid out in interest over the life of the bond in interest payments.
According to the point of view of the holder, an OID bond offers higher profits with a lesser investment included. Some OID investors reinvest their discounted coupon payments at the higher market interest rates, further helping their returns. For retirement planning, zero-coupon OID bonds give a great way to holders that don't need periodic interest payments to earn higher profits at maturity.
Bonds are viewed as one of the safer parts of a portfolio. Yet, are they actually a safe haven for investors? Determine from the specialists.

Original issue discount model

During the 1980s, Omni Consumer Products had been hoping to raise debt funding, yet stagflation and economic crisis had driven inflation and interest rates through the rooftop. With an end goal to avoid burdening its more extended term cash flow with high interest rates down the road, Omni chose to issue 30-year OID bonds. They had a face value of $1,000 and a 5% coupon, or interest rate. Albeit this interest rate was well below the market rate at that point, investors got a discount on the face value of the bonds at purchase that compensated for any shortfall. It was a mutual benefit: Omni avoided being stuck paying a high rate when market rates unavoidably declined, and investors get a discount.

Highlights

• The original issue discount (OID) is the difference between the original face value amount and the discounted price paid for a bond.
• OID bonds have the potential for gains since investors can buy the bonds for a lower price than their face value.
• OID bonds sold at a discount could show an issuer is facing financial difficulty and default is conceivable.