Exam 13: Convertible Securities and Warrants

Sharpie Cookies has warrants outstanding which allow the holder to purchase 2 shares of stock per warrant at $26 per share. The common stock is currently selling for $28 per share. The warrant has a market value of $6. Calculate the intrinsic value of the warrant and speculative premium.

When warrants are exercised, the company goes through an accounting process to determine the new number of shares created. This process assumes that the company:

The amount of downside risk cannot vary.

If a warrant is detachable from its bond, the bond converts upon exercise of the warrant.

Which of the following is NOT a characteristic of a warrant?

Convertible securities are a good investment for conservative investors, for they offer regular income and potential downside protection against falling stock prices.

Downside risk is: $\frac {\text { Bond Market Price - Pure Bond Value }} { \text {Conversion Premium } }$

Conversion value is the conversion price multiplied by the conversion ratio.

As the stock price moves higher, the conversion premium that the investor is willing to pay:

A forced conversion is when the company calls the convertible security knowing the owners will take stock and thus convert debt to equity.

A company has a convertible bond with a conversion price of $27 per share. The company's common stock is currently trading at $23 per share. What is the conversion value of the bond (rounded to whole dollars)?

A warrant with an intrinsic value of zero cannot sell at a premium.

The more volatile the stock price as measured by beta or standard deviation of returns,

A warrant carries an option to purchase two shares at $35. The warrant's minimum value is determined to be $25. At what price is this company's common stock currently trading?

Conversion ratio is the face value divided by the conversion price.

What is the percentage downside risk on a bond with market value of $900, conversion value of $800, and pure bond value of $650?

What is the minimum value on a bond with market value of $900, conversion value of $800, and pure bond value of $650?

A convertible bond's price is usually the same as the stock price times the conversion ratio.

Assume you bought a convertible bond two years ago for $920. The bond has a conversion ratio of 30. At the time the bond was purchased, the stock was selling at $25 per share. The bond pays $100 in annual interest. The stock pays no cash dividend. Assume after two years the stock price rises to $45, and the firm forces investors to convert to common stock by calling the bond (there is no conversion premium). Would you have been better off if you had bought the stock directly or bought the convertible bond and eventually converted it into common stock? You would have invested $920 in either case.

A convertible bond has a face value of $1,000 and the conversion price is $40 per share. The stock is selling at $30 per share. The bond pays $65 per year in interest and is selling in the market for $950. It matures in 7 years. Market rates are 10% annually. (a) What is the conversion ratio? (b) What is the conversion value? (c) What is the conversion premium (in dollars and percent)? (d) What is the floor or pure bond value (using annual analysis)? (e) Compute the downside risk as a percentage.