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Suppose Disney issued a convertible (non-callable) bond with an annual coupon of 10% that matures in...

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Finance

Suppose Disney issued a convertible (non-callable) bond with anannual coupon of 10% that matures in 5 years. The conversion ratiois 26.32 shares of stock per bond and Disney’s stock is currentlytrading at $30 per share. The convertible bond is priced at $900 inthe market and the appropriate discount rate is 13%.

  1. What is the Straight Bond Value of this convertible?
  2. What is the Option Value of the Bond?
  3. What is the Conversion Value of the Bond?
  4. Based solely on today’s values, should you convert?

Answer & Explanation Solved by verified expert
3.9 Ratings (594 Votes)

a

                  K = N
Bond Price =∑ [(Annual Coupon)/(1 + YTM)^k]     +   Par value/(1 + YTM)^N
                   k=1
                  K =5
Bond Price =∑ [(10*1000/100)/(1 + 13/100)^k]     +   1000/(1 + 13/100)^5
                   k=1
Bond Price = 894.48
Discount rate 0.13
Year 0 1 2 3 4 5
Cash flow stream 0 100 100 100 100 1100
Discounting factor 1 1.13 1.2769 1.442897 1.6304736 1.842435
Discounted cash flows project 0 88.49558 78.31467 69.30502 61.331873 597.0359
Price= Sum of discounted cash flows
Bond price = 894.48
Where
Discounting factor = (1 + discount rate)^(Corresponding period in years)
Discounted Cashflow= Cash flow stream/discounting factor

b

Conversion option value = Value of conversion bond-value of straight bond
Conversion option value = 900-894.48
Conversion option value = 5.52

c

Conversion value = Conversion ratio*current share price
Conversion value = 26.32*30
Conversion value = 789.6

d

Donot convert as conversion value is less than current price of bond
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