Company X's convertible bond with 3 years till-maturity has the following features. Issue Price $1,000 at...
Fantastic news! We've Found the answer you've been seeking!
Question:
Transcribed Image Text:
Company X's convertible bond with 3 years till-maturity has the following features. Issue Price $1,000 at par Conversion Period Initial Conversion Price Threshold Dividend* Up till Bond maturity $20 per share $0.25 per share $15 per share Change of Control Conversion Price** Current common stock share price Current Convertible Bond price $16.60 $1,080 * When dividends to be issued exceed this threshold, the bond indenture requires the issuer to provide for conversion ratio to increase. **When the firm will be taken over by or be merged with another firm, the issuer must allow for bond- holder to convert at the change-of-control conversion price over a stated window prior to the change of control. (a) What is the estimated market conversion premium per share of X's convertible bond? (b) If there is announcement of a takeover of X by a larger firm, and change of control price is effected, would the CB holder convert immediately before the convertible bond price and the stock price change? (c) If the announcement in (b) is cancelled, but instead there is announcement that X's share price is expected to rise to $23 by the following year. What would be the estimated expected return of the convertible bond over the next year? Q4. (4 marks) Par curve rates for annual payment benchmark government bonds are given in Table 1. One- year transition matrix for historical A-rated bonds and credit spreads is shown in Table 2. Company EsBeer has a single A credit rating, and issues at par a 3-year 4.5% annual coupon bond. The bond's modified duration is 2.87. The recovery rate for A-rated bond is 40%. The hazard rate is 1% per year. 1-period spot interest rate volatility is assumed to a constant 15%. Table 1: Maturity 1 2 3 Table 2: Probability (%) Credit Spread Coupon Rate Price 100 2% 3% 4.5% AAA 0.5 0.05% 100 100 AA 2.5 A 88.00 0.3% 0.6% B BBB BB 5.5 2.0 1.50% 3.50% 7.00% 1.0 CCC,CC,C 0.4 10.00% 2 Note: There is a small 0.1% chance of default, which is rating D (not shown in Table). Entry of "88.0" indicates that over 1 year, the A-rated bond will remain in A-rating with 88% probability. Entry "2.5" indicates that over 1 year, the A-rated bond will migrate to a better rating of AA with 2.5% probability, and so on. (a) What is the credit spread on EsBeer bond? (Hint: You have to first construct the risk-free BDT spot rate binomial tree to find the bond value under no default. Note that the spread indicated in Table 2 for A-rated bonds is just a group average and not specifically the spread for EsBeer.) (b) It is assumed that the market spreads and yields will remain stable during the initial year. Thus any changes to yields will be due to credit migration risk. Conditional on no default in the first year, what is the expected return of the EsBeer bond over the year? Company X's convertible bond with 3 years till-maturity has the following features. Issue Price $1,000 at par Conversion Period Initial Conversion Price Threshold Dividend* Up till Bond maturity $20 per share $0.25 per share $15 per share Change of Control Conversion Price** Current common stock share price Current Convertible Bond price $16.60 $1,080 * When dividends to be issued exceed this threshold, the bond indenture requires the issuer to provide for conversion ratio to increase. **When the firm will be taken over by or be merged with another firm, the issuer must allow for bond- holder to convert at the change-of-control conversion price over a stated window prior to the change of control. (a) What is the estimated market conversion premium per share of X's convertible bond? (b) If there is announcement of a takeover of X by a larger firm, and change of control price is effected, would the CB holder convert immediately before the convertible bond price and the stock price change? (c) If the announcement in (b) is cancelled, but instead there is announcement that X's share price is expected to rise to $23 by the following year. What would be the estimated expected return of the convertible bond over the next year? Q4. (4 marks) Par curve rates for annual payment benchmark government bonds are given in Table 1. One- year transition matrix for historical A-rated bonds and credit spreads is shown in Table 2. Company EsBeer has a single A credit rating, and issues at par a 3-year 4.5% annual coupon bond. The bond's modified duration is 2.87. The recovery rate for A-rated bond is 40%. The hazard rate is 1% per year. 1-period spot interest rate volatility is assumed to a constant 15%. Table 1: Maturity 1 2 3 Table 2: Probability (%) Credit Spread Coupon Rate Price 100 2% 3% 4.5% AAA 0.5 0.05% 100 100 AA 2.5 A 88.00 0.3% 0.6% B BBB BB 5.5 2.0 1.50% 3.50% 7.00% 1.0 CCC,CC,C 0.4 10.00% 2 Note: There is a small 0.1% chance of default, which is rating D (not shown in Table). Entry of "88.0" indicates that over 1 year, the A-rated bond will remain in A-rating with 88% probability. Entry "2.5" indicates that over 1 year, the A-rated bond will migrate to a better rating of AA with 2.5% probability, and so on. (a) What is the credit spread on EsBeer bond? (Hint: You have to first construct the risk-free BDT spot rate binomial tree to find the bond value under no default. Note that the spread indicated in Table 2 for A-rated bonds is just a group average and not specifically the spread for EsBeer.) (b) It is assumed that the market spreads and yields will remain stable during the initial year. Thus any changes to yields will be due to credit migration risk. Conditional on no default in the first year, what is the expected return of the EsBeer bond over the year?
Expert Answer:
Answer rating: 100% (QA)
Convertible Bond Analysis Company X a Market Conversion Premium Conversion price CP 025 assumed threshold not met Current common stock price S 1660 Ma... View the full answer
Related Book For
Financial Reporting and Analysis
ISBN: 978-0078025679
6th edition
Authors: Flawrence Revsine, Daniel Collins, Bruce, Mittelstaedt, Leon
Posted Date:
Students also viewed these finance questions
-
An annuity is set up to pay $11,300 at the end of each year for the next 20 years. To fund the annuity, we will deposit a lump sum deposited into an account earning an interest rate of 4% compounded...
-
3-19 Design a pin-jointed linkage that will guide the forks of the fork lift truck in Figure P3-5 up and down in an approximate straight line over the range of motion shown. Arrange the fixed pivots...
-
WHAT DETERMINES THE VALUE OF CASH FLOWS? 1. size 2. timing 330K to 41 + $76,800 " 411,800 3. riskiness/ uncertainty $100 (1,5) = +110 |.| You believe that there is a demand for off-campus housing...
-
Prepare a statement of profit or loss and other comprehensive income( year ending 31 march 2023) , and a statement of financial position as at 31 march 2023 for the Batliss Plc Bayliss Plc is a...
-
(a) Find the eigenvalues and eigenvectors of (b) Verify that the eigenvectors are mutually orthogonal. Based on part (a), is K positive definite, positive semi-definite or indefinite? (c) Solve the...
-
WRI Industries Inc. schedule of depreciable assets at December 31, Year 3, is shown below WRI takes a full year's depreciation expense in the year of an asset's acquisition and no depreciation...
-
Matt Enterprises issued \(\$ 200,000\) of ten percent, five-year bonds with interest payable semiannually. Determine the issue price if the bonds are priced to yield (a) ten percent, (b) six percent,...
-
Woodfield Company makes bed linens. During the first six months of 2012, Woodfield had the following production costs: Required: 1. Use the high-low method to compute the monthly fixed cost and the...
-
Ben Schmidt, a retired military attach with considerable experience in the Middle East, was hired by a large German computer software company to represent it in a number of Persian Gulf countries....
-
Examine the Apartment worksheet, and apply appropriate names to cells D17:D20. 2. Set up the structure of a one-variable data table on the Analysis worksheet that shows the apartment rental price,...
-
Draw a triangle ABC and two of its medians AM and BN. Let G be the point where AM intersects BN. Extend AM to the point P that makes GM- MP. Extend BN to the point Q that makes GN NQ (a) Explain why...
-
If you are using the direct method of reporting operating cash flows, which numbers in the cash flow matrix will you use? What is the direct method of reporting operating cash flows?
-
In each of the cases below, assume Division X has a product that can be sold either to outside customers or to Division Y of the same company for use in its production process. The managers of the...
-
The goose has a mass of 16.2lb (pounds) and is flying at 9.50miles/h (miles per hour). What is the kinetic energy of the goose in joules? Please Show all work
-
The Sanding Department of Oriole Furniture Company has the following production and manufacturing cost data for March 2025, the first month of operation. Production: 7,700 units completed and...
-
The Regal Cycle Company manufactures three types of bicycles-a dirt bike, a mountain bike, and a racing bike. Data on sales and expenses for the past quarter follow: Sales Variable manufacturing and...
-
In popTop(), if the compareAndSet() in Line 9 succeeds, it returns the element it read right before the successful compareAndSet() operation. Why is it important to read the element from the array...
-
In Exercises discuss the continuity of each function. f(x) -3 1 x - 4 y 3 2 -1 -2 -3+ 3 X
-
The stockholders equity section of Peter Corporations balance sheet at December 31, 2014, follows: Common stock ($10 par value); authorized 1,000,000 shares, issued and outstanding 900,000 shares $...
-
Presented below are excerpts from the 2008 annual report of Union Pacific. At December 31, 2008, Union Pacific had a stock price of $47.80 and 503.2 million shares outstanding. Its balance sheet at...
-
On January 1, 2014, Morrill, Inc., purchased at par value a bond issued by a German company for 5,000 euros. Morrill classifies this security in its available-for-sale (AFS) portfolio. On December...
-
A pipeline containing ammonia gas is vented to ambient air via a \(20-\mathrm{m}\) long, \(3-\mathrm{mm}\) diameter tube. What is the mass flow ( \(\mathrm{g} /\) day) of ammonia into the atmosphere?...
-
We have steady-state diffusion of ammonia in air across a \(0.033 \mathrm{~mm}\) thick film. On one side of the film ammonia concentration is \(0.000180 \mathrm{kmol} / \mathrm{m}^{3}\), and on the...
-
Determine the modified Sherwood number \(\mathrm{Sh}_{\text {gas,partial_pressure }}=\frac{\mathrm{k}_{\mathrm{p}} \mathrm{d}_{\text {tube }}\left(\mathrm{p}_{\mathrm{B}}...
Study smarter with the SolutionInn App