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In: Finance

Bombardier Inc's bond with 25 detachable warrants has just been offered for sale at $1,000. The...

Bombardier Inc's bond with 25 detachable warrants has just been offered for sale at $1,000. The bond matures in 20 years and has an annual coupon of $105. Each warrant gives the owner the right to purchase two shares of Bombardier stock at $20 per share.

Ordinary bonds (with no warrants) of similar quality are priced to yield 17 percent. What is the value of one warrant?

Solutions

Expert Solution

Bond Price:
It refers to the sum of the present values of all likely coupon payments plus the present value of the par value at maturity. There is inverse relation between Bond price and YTM ( Discount rate ) and Direct relation between Cash flow ( Coupon/ maturity Value ) and bond Price.

Price of Bond = PV of CFs from it.

Year Cash Flow PVF/ PVAF @17 % Disc CF
1 - 20 $      105.00                           5.6278 $        590.92
20 $   1,000.00                           0.0433 $          43.28
Bond Price $        634.20

As Coupon Payments are paid periodically with regular intervals, PVAF is used.
Maturity Value is single payment. Hence PVF is used.


What is PVAF & PVF ???
PVAF = Sum [ PVF(r%, n) ]
PVF = 1 / ( 1 + r)^n
Where r is int rate per Anum
Where n is No. of Years

How to Calculate PVAF using Excel ???
+PV(Rate,NPER,-1)
Rate = Disc rate
Nper = No. of Periods

One Bond = 50 Shares ( 25 warrants * 2 shares / warrant )

Share Price = Bond Price / 50

= $ 634.20 / 50

= $ 12.68

Share Price is $ 12.68


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