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# Valuation of convertibles - convertible bond

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The shares of the Dyer Drilling Co. sell for \$60. The firm has a P/E ratio of 15. Forty percent of earnings is paid out in dividends. What is the firm's dividend yield?

Stan Pearl owns 300 shares of Royal Optical Company stock, which he bought for \$16 per share. He is in a 35 percent tax bracket. It is the first week in December, and he has already received the full cash dividend for the year of \$1.20 per share. For his tax bracket, dividends are now taxed at 15 percent. The stock is currently selling for \$301&#8260;8. He has decided to sell the stock and after paying broker commissions, his net proceeds will be \$30 per share. His tax rate on capital gains is also 15 percent (the capital gains are long-term). How much in total taxes will Stan Pearl pay this year for his investment in Royal Optical Company? Consider dividend income as well as capital gains.

The bonds of Goldman Sack Co. have a conversion premium of \$55. Their conversion price is \$40. The common stock price is \$42. What is the price of the convertible bonds?

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#### Solution Preview

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The bonds of Goldman Sack Co. have a conversion premium of \$55. Their conversion price is \$40. The common stock price is \$42. What is the price of the convertible bonds?

First compute the conversion ratio
Conversion ratio = Par Value/Conversion Price = \$1000/\$40=25
Now calculate conversion value
Conversion value = Common Stock Price x Conversion Ratio= \$42 x 25 shares = \$1,050
Now add conversion premium to the conversion value to arrive at the convertible bond price:
Convertible bond price = Conversion Value ...

#### Solution Summary

This posting answers three different questions in corporate finance. The first one is on pricing of a convertible bond. It first calculates the conversion ratio and then the conversion value to finally arrive at the price of the convertible bond. In the second problem dividend yield is calculated from the given data using various formulas. The third problem calculates the divided yield from the information given in the problem. The solution provides clear systematic approach to solving these problems.

\$2.19