Question

Maese Industries Inc. has warrants outstanding that permit the holders to purchase 1 share of stock per warrant at a price of $24. Calculate the exercise value of the firm's warrants if the common sells at each of the following prices: (1) $20, (2) $25, (3) $30, (4) $100. (Hint: A warrant's exercise value is the difference between the stock price and the purchase price specified by the warrant if the warrant were to be exercised.) If your answer is zero, enter "0". Round your answers to the nearest dollar. (1) $20 $ (2) $25 $ 1 (3) $30 $ 6 (4) $100 $ 76 Assume the firm's stock now sells for $20 per share. The company wants to sell some 20-year, $1,000 par value bonds with interest paid annually. Each bond will have attached 50 warrants, each exercisable into 1 share of stock at an exercise price of $25. The firm's straight bonds yield 10%. Assume that each warrant will have a market value of $3 when the stock sells at $20. What coupon interest rate must the company set on the bonds with warrants if they are to clear the market? (Hint: The convertible bond should have an initial price of $1,000.) Do not round intermediate calculations. Round your answer to two decimal places. % What dollar coupon must the company set on the bonds with warrants if they are to clear the market? (Hint: The convertible bond should have an initial price of $1,000.) Do not round intermediate calculations. Round your answer to the nearest dollar. $

Answer 1

1). Exercise price = stock price - purchase price

Stock price	20	25	30	100
Purchase price	24	24	24	24
Exercise price	0	1	6	76

Note: warrant won't be exercised when stock price is less than the purchase price so exercise price will then be zero.

2). Total value of $1,000 has to equal (value of bond + value of warrants)

Value of warrants = number of warrants/bond*warrant price = 50*3 = 150

Value of bond:

n = 20; r = 10%; FV = 1,000. PV of redemption value = 1,000/(1+10%)^20 = 148.64

Now, we need to calculate the annual interest payment amount by using the PV annuity formula = (1-(1+r)^-n)/r

= (1-(1+10%)^-20)/10% = 8.5136

The final equation becomes:

1,000 = 150 + 148.64 + pmt*8.5136

701.36 = pmt*8.5136

pmt = 701.36/8.5136 = 82.38 (or 82)

Dollar coupon = $82

Annual interest rate = 82.38/1000 = 8.24%