1) Laser Electronics Company has $30 million in 8 percent convertible bonds outstanding. The conversion ratio is 50; the stock price is $17; and the bond matures in 15 years. The bonds are currently selling at a conversion premium of $60 over their conversion value. If the price of the common stock rises to $23 on this date next year, what would your rate of return be if you bought a convertible bond today and sold it in one year? Assume on this date next year, the conversion premium has shrunk from $60 to $10.
2) Assume you can buy a warrant for $5 that gives you the option to buy one share of common stock at $14 per share. The stock is currently selling at $16 per share.
a. What is the intrinsic value of the warrant?
b. What is the speculative premium on the warrant?
c. If the stock rises to $24 per share and the warrant sells at its theoretical value without a premium, what will be the percentage increase in the stock price and the warrant price if you bought the stock and the warrant at the prices stated above? Explain this relationship.
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Conversion Value -- The value of the convertible security in terms of the common stock into which the security can be converted. It is equal to the conversion ratio times the current market price per share of the common stock.
Premium Over Conversion Value -- The market price of a convertible security minus its conversion value; also called conversion premium.
Price at which the bond is purchased
Conversion ratio = Number of ...
Answers questions on Convertible Bonds, Warrants.
1) calculates the rate of return on investment in convertible bonds.
2) calculates the intrinsic value and the speculative premium on the warrant.