A Firm Wishes to Issue a Perpetual Callable Bond

Multiple Choice

A firm wishes to issue a perpetual callable bond. The current interest rate is 7%. Next year, the interest rate will be 6.5% or 8.25% with equal probability. The bond is callable at $1,075, and it will be called if the interest rate drops to 6.5%. What is the cost of the call provision to the firm if the bond sells for $1,000 today?

A) -$71.43.
B) $0.00.
C) $77.41.
D) $178.57.