Chapter 22 Convertibles, Exchangables, and Warrants

Antidilution and the Convertible Security

For example, if the market value per share of common stock in FunFinMan, Inc., were trading at $42 per share, then the conversion value is:

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.

For example, if the market value per share of common stock in FunFinMan, Inc., were trading at $42 per share, then the conversion value is:

3.33 shares x $42 = $140 per share of preferred stock

Conversion Value

For example, if the market value per share of preferred stock in FunFinMan, Inc., were trading at $154 per share, then the conversion premium is:

Premium Over Conversion Value – The market price of a convertible security minus its conversion value; also called conversion premium.

For example, if the market value per share of preferred stock in FunFinMan, Inc., were trading at $154 per share, then the conversion premium is:

$154 – $140 = $14 premium per share of preferred stock (or a 10% premium).

Premium Over Conversion Value

Virtually all convertible securities provide for a call price, which allows the company to force conversion when the security market value is significantly above the call price.

• Virtually all convertible securities provide for a call price, which allows the company to force conversion when the security market value is significantly above the call price.
• Almost all convertible bond issues are subordinated to other creditors, which allows a lender to treat convertibles as a part of the equity base when evaluating the financial condition of the issuer.
• The potential dilution effect is recognized by investors who evaluate earnings based on a diluted earnings per share.