Today is t = 0. You may assume the discount rate is 0%. Vapepsi is seeking to raise money for international expansion by issuing a conditional convertible bond. This bond is a 1-year zero coupon bond with face value $20M. Information about the conversion conditions is provided further below. The expansion can have outcomes A, B, or C, with probabilities 20%, 30%, and 50%, respectively. 

In those outcomes, the value of assets at t = 1 would be $420M, $50M and $25M, respectively. These asset values are values prior to any debt repayment. At t = 0 there are 5M shares outstanding. The company also has two pre-existing bonds: Bond A and Bond B. Both bonds are 1 year zero coupon bonds with face value = $10M. In case of default, Bond A ranks senior to both Bond B and the convertible bond. Bond B ranks equal with the convertible bond in case of default. 

The conditional convertible bond gets converted into 5M shares only if outcome B occurs. In all other outcomes, it remains a regular bond. You write down one equation for the fair price of the convertible bond at t = 0, where some of the numbers have been replaced with letters: Price of Convertible Bond = 20%(X) + 30%(Y) + 50%(Z)

In the equation above what is X? What is Y? What is Z?

Answer rating: 100% (QA)

Since Price of Convertible Bond 20X 30Y 50Z X is the price of Convertible bond if Outcome A occurs Y ... View the full answer