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Exam 19: Convertibles, Warrants, and Derivatives

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Question 21

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A $1,000 par value convertible bond has a conversion ratio of 50. The bond conversion price is $20.

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Question 22

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All of the following are advantages to the corporation of issuing convertibles except:

A) provides a low-cost financing alternative for large, high-quality companies
B) used when believe stock is undervalued
C) generally lower cost than straight debt
D) provides access for small co's to debt market

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Question 23

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Mirrlees Corp. has 10,000 7% bonds convertible into 30 shares per $1000 bond. Mirrlees has 1,000,000 outstanding shares. Mirrlees has a tax rate of 40%. The average Aa bond yield at time of issue was 10%. Compute basic earnings per share if after-tax earnings are $1,400,000.

Sen Corporation warrants carry the right to buy 10 shares of Sen common stock at $11.00 per share. The common stock has a current market price of $11.75 per share. The intrinsic or minimum value of one Sen warrant is

A warrant's speculative premium equals the market price of the underlying common stock minus the option price.

Basic earnings per share includes all convertible bonds outstanding.

Fred Jury is a portfolio manager who has $900,000 of a client's money to invest in highly speculative instruments. Jury is contemplating the purchase of 40,000 shares of Shakee Corp. common stock, which is currently selling on the American Stock Exchange at $30.00 per share. Alternatively, he could buy warrants on Shakee Corp. common for $5.50. Each warrant gives the holder the right to buy one share of Shakee Corp. common stock at $24.00 per share. a) How many warrants could Mr. Jury buy with the $900,000? b) If he had purchased the common stock directly, and its price had increased to $37.20 per share, calculate his dollar and percentage return on the investment. c) Assume that when the price of the stock goes to $37.20 per share, the warrant sells for its intrinsic value. If Jury sells his warrants at this point, calculate his dollar and percentage return on the investment.

The XLarge Corporation has a convertible bond outstanding with a conversion price of $35 per share. The $1000 par value bonds have a 6% annual coupon rate, paid semi-annually, and 20 years to maturity. The firm's common stock is currently selling for $44 per share and the convertible bonds are selling for $1,200.00. a) Calculate the conversion ratio. b) Calculate the conversion value. c) If equivalent bonds are currently yielding 12% to maturity, what is the pure bond value of this bond? d) How much downside protection does the pure bond value provide to an investor? Would this be an appropriate investment for a risk-averse investor?

Which of the following is true?

One advantage to the corporation in selling a convertible bond is:

When the market price of a common stock rises above the conversion price, the convertible should always be converted immediately before it drops.

A convertible security is one that can be converted into common stock only at the option of the issuer.

A disadvantage to the investor of a convertible bond is that

Options contracts contrast with futures because

A convertible bond is currently selling for $1,125. It is convertible into 20 shares of common which presently sell for $40 per share. The conversion premium is

The floor price of a convertible bond cannot fall below

The conversion premium is equal to the market price minus the conversion value.

The computation of basic earnings per share will include consideration of

Match the following with the items below:

As a financing device for creating common stock, warrants are usually more desirable than convertible bonds.