武汉理工大学：《财务管理》课程PPT教学课件（英文版）Chapter 22 Convertibles, Exchangeables, and Warrants

Chapter 22 Convertibles Exchangeables, and Warrants 22-1

22-1 Chapter 22 Convertibles, Exchangeables, and Warrants

Convertibles, Exchangable, and warrants Convertible Security Features Use of convertibles Value of convertible Securities Exchangeable Bonds Warrants 22-2

22-2 Convertibles, Exchangables, and Warrants Convertible Security Features Use of Convertibles Value of Convertible Securities Exchangeable Bonds Warrants

Derivative Security Derivative Security -A financial contract whose value derives in part from the value and characteristics of one or more underlying assets(e. g, securities, commodities),interest rates, exchange rates or indices Straight debt or equity cannot be exchanged for another asset, but options are exchangeable. An option is part of the broader category of derivative securities We examine the convertible security, exchangeable bond, and warrant in this chapter. 22-3

22-3 Derivative Security -- A financial contract whose value derives in part from the value and characteristics of one or more underlying assets (e.g., securities, commodities), interest rates, exchange rates, or indices. Derivative Security Straight debt or equity cannot be exchanged for another asset, but options are exchangeable. An option is part of the broader category of derivative securities. We examine the convertible security, exchangeable bond, and warrant in this chapter

Convertible securit Convertible Security -A bond or a preferred stock that is convertible into a specified number of shares of common stock at the option of the holder This provides the convertible holder a fixed return (interest or dividend) and the option to exchange a bond or preferred stock for common stock The option allows the company to sell convertible securities at a lower yield than it would have to pay on a straight bond or preferred stock issue 22-4

22-4 Convertible Security -- A bond or a preferred stock that is convertible into a specified number of shares of common stock at the option of the holder. Convertible Security This provides the convertible holder a fixed return (interest or dividend) and the option to exchange a bond or preferred stock for common stock. The option allows the company to sell convertible securities at a lower yield than it would have to pay on a straight bond or preferred stock issue

Convertible Security Conversion Price The price per share at which common stock will be exchanged for a convertible security. It is equal to the face value of the convertible security divided by the conversion ratio Conversion Ratio -- The number of shares of common stock into which a convertible security can be converted. It is equal to the face value of the convertible security divided by the conversion price 22

22-5 Conversion Price -- The price per share at which common stock will be exchanged for a convertible security. It is equal to the face value of the convertible security divided by the conversion ratio. Convertible Security Conversion Ratio -- The number of shares of common stock into which a convertible security can be converted. It is equal to the face value of the convertible security divided by the conversion price

Conversion Example FunFinMan, Inc. has an issue of 8% $100 par value preferred stock outstanding. The security has a conversion price of $30 per share What is the conversion ratio? Conversion Ratio $100 par value /$30 conversion price 3.33 shares 22-6

22-6 FunFinMan, Inc., has an issue of 8%, $100 par value preferred stock outstanding. The security has a conversion price of $30 per share. What is the conversion ratio? Conversion Example Conversion Ratio = $100 par value / $30 conversion price = 3.33 shares

Antidilution and the Convertible securit Conversion terms are not necessarily constant over time Example: The conversion price on 20-year convertible-debt might step-up?over time from $30 during the first 5 years, $35 the next 5 years, and $40 for thethe remaining 10 years until maturity The conversion price is usually adjusted for any stock splits or stock dividends to protect the convertible bondholder from antidilution (known as the antidilution clause) 22-7

22-7 Antidilution and the Convertible Security Conversion terms are not necessarily constant over time. Example: The conversion price on 20-year convertible-debt might step-up?over time from $30 during the first 5 years, $35 the next 5 years, and $40 for the the remaining 10 years until maturity. The conversion price is usually adjusted for any stock splits or stock dividends to protect the convertible bondholder from antidilution (known as the antidilution clause)

Conversion value Conversion value The value of the convertible security in terms of the common stock into which the security can be converted. It is equal to the conversion ratio times the current market price per share of the common stock For example, if the market value per share of common stock in Fun FinMan, Inc., were trading at $42 per share, then the conversion value is 3. 33 shares x $42=$140 per share of preferred stock 22-8

22-8 Conversion Value -- The value of the convertible security in terms of the common stock into which the security can be converted. It is equal to the conversion ratio times the current market price per share of the common stock. Conversion Value For example, if the market value per share of common stock in FunFinMan, Inc., were trading at $42 per share, then the conversion value is: 3.33 shares x $42 = $140 per share of preferred stock

Premium over Conversion value Premium over Conversion value - The market price of a convertible security minus it conversion value: also called conversion premium. For example, if the market value per share of preferred stock in FunFinMan, Inc,were trading at $154 per share, then the conversion premium Is. $154-$140=$14 premium per share of preferred stock (or a 10% premium) 22-9

22-9 Premium Over Conversion Value -- The market price of a convertible security minus it conversion value; also called conversion premium. Premium Over Conversion Value For example, if the market value per share of preferred stock in FunFinMan, Inc., were trading at $154 per share, then the conversion premium is: $154 - $140 = $14 premium per share of preferred stock (or a 10% premium)

Other ssues with Convertible Securities Virtually all convertible securities provide for a call price, which allows the company to force conversion when the security market value is significantly above the call price Almost all convertible bond issues are subordinated to other creditors which allows a lender to treat convertibles as a part of the equity base when evaluating the financial condition of the issuer. The potential dilution effect is recognized by investors who evaluate earnings based on a diluted earnings per share 22-10

22-10 Other Issues with Convertible Securities Virtually all convertible securities provide for a call price, which allows the company to force conversion when the security market value is significantly above the call price. Almost all convertible bond issues are subordinated to other creditors, which allows a lender to treat convertibles as a part of the equity base when evaluating the financial condition of the issuer. The potential dilution effect is recognized by investors who evaluate earnings based on a diluted earnings per share