Investing Answers Building and Protecting Your Wealth through Education Publisher of The Next Banks That Could Fail
Investing Answers Building and Protecting Your Wealth through Education Publisher of The Next Banks That Could Fail

Make Whole Call (Provision)

What it is:

A make-whole call provision is a call provision attached to a bond, whereby the borrower must make a payment to the lender in an amount equal to the net present value of the coupon payments that the lender will forgo if the borrower pays the bonds off early.

How it works (Example):

Let's say John Doe buys a Company XYZ bond that matures in 20 years but has a make-whole call provision. John receives semiannual coupon payments of $1,000 from Company XYZ.

In the 15th year of the bond, interest rates decrease considerably and Company XYZ decides to pay the bonds off early so that it can borrow at a lower rate. This means that John Doe is going to get his original investment back five years early and thus won't get the last five years of coupon payments.

However, because the bond has a make-whole call provision, Company XYZ must return John's principal and the present value of the $10,000 he is giving up due to the early repayment.

Why it Matters:

A make-whole call provision ensures that bondholders aren't left out in the cold if a borrower decides to repay bonds early. This is particularly valuable to income investors who depend on the cash flows from coupon payments. However, make-whole provisions also deter companies from paying off bonds early, because the costs of making those make-whole payments can be very high. Accordingly, make-whole provisions may actually ensure that a bond is not called.