A 9.35%, 18-year convertible bond is selling at $1,095. The bond has a conversion rate of...

A 9.35%, 18-year convertible bond is selling at $1,095. The bond has a conversion rate of 38. The common stock is trading at 23.12. Comparable straight bonds are selling to yield 9 %. The common stock pays an annual dividend of .50 cents per share.
1. Calculate the bond’s conversion value
2. Premium (if any) over conversion value
3. Investment value
4. And premium (if any) over investment value, and payback period.

Solutions

Expert Solution

Answer:

a) Bond's conversion value = Conversion ratio * Market price of the stock
i.e.Bond's conversion value = 38 * 23.12 = $878.56

b) Premium over conversion = Market conversion price - Market price of the stock
i.e.Premium over conversion = (1095/38) - 23.12 = 28.82 - 23.12 = $5.70

c) Investment value (straight value of bond) = coupon rate PVAF (9%, 18) + redemption value PVIF (9%, 18)
= 93.50 PVAF(9%,18) + 1000 PVIF (9%,18) = 818.65 + 211.99 = $1030.64

d) Premium over investment value = Market Price of debenture - Investment Value = $(1095-1030.64) = $64.36
OR (64.36/1030.64)*100 = 6.24%

Favourable income differential per share = [Coupon interest - (Conversion ratio * dividend per share)] / Conversion ratio
Favourable income differential per share = [93.50 - (38*0.50)] / 38 = 1.96

Therefore, premium payback period = Conversion premium / Favourable income differential per share
i.e. premium payback period = 5.70 / 1.96 = 2.91 years

jeff jeffy answered 1 year ago

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