Convertible Bonds, please show equations to get answers, thank you
B E F G H I J Maggie's Magazines (MM) has straight nonconvertible bond that currently yield 7%. MM's stock sells for $22 per share. has an expected constant growth rate of 7%, and has a dividend yield of 4%. MM plans on issuing convertible bonds that will have a $1,000 par value, a coupon rate of 6%, a 20-year maturity, and a conversion ratio of 32 (i.e., each bond could be convertible into 32 shares of stock). Coupon payments will be made annually. The bonds will be noncallable for 5 years, after which they will be callable at a price of $1,090; this call price would decline by S6 per year in Year 6 and each year thereafter. For simplicity, assume that the bonds may be called or converted only at the end of a year, immediately after the coupon and dividend payments. Management will call the bonds when the bonds' conversion value exceeds 25% of the bonds' par value (not their call price). K 14 15 16 Inputs: 17 Straight bond yield 18 Current stock price 19 Expected growth rate in stock price 20 Dividend yield 21 Par value (and issue price) of convertible bond 22 Coupon rate on convertible bond 23 Maturity of convertible bond (years) 24 Conversion ratio 25 Call protection period (years) 26 Call price when call protection ends 27 Call price decline per year after protection period Policy for call: Call when conversion value exceeds 28 this percent over bond's par value. $22.00 7% 4% $1,000.00 6.00% $1,090.00 $6.00 29 25% 30 31 a. For each year, calculate: (1) the anticipated stock price; (2) the anticipated conversion value; (3) the anticipated 32 straight-bond price; and (4) the cash flow to the investor assuming conversion occurs. At what year do you expect 33 the bonds will be forced into conversion with a call? What is the bond's value in conversion when it is converted at 34 this time? What is the cash flow to the bondholder when it is converted at this time (Hint: the cash flow includes the 35 conversion value and the coupon payment, because the conversion is immediately after the coupon is paid.) 36 37 Will call the issue in the first year that the G H I Anticipate d stock price at year end (1) 22.00 Conversion Value (2) Convert? (Yes, no, or already) Straight debt Cash flow to value of bondholder convertible if converted (3) (4) 39 Year 40 41 42 43 No No No No No 44 45 46 47 48 Tomo WNIOO VOL AWNO 51 52 53 54 55 56 58 60 61 63 Conversion year = 64 AWNOOD 3 Conversion year = 5 Value in conversion = 7 b. What is the expected rate of return (i.e., before-tax component cost) on the proposed convertible issue? 8 9 Using the RATE function: ON= 1 PMT = $60.00 2 PV = -$1,000.00 3 FV = $ 5 Rate = O 7 As a check, using the IRR function and the cash flows in column F O 9 Expected return to bondholders O W B E F G H I J Maggie's Magazines (MM) has straight nonconvertible bond that currently yield 7%. MM's stock sells for $22 per share. has an expected constant growth rate of 7%, and has a dividend yield of 4%. MM plans on issuing convertible bonds that will have a $1,000 par value, a coupon rate of 6%, a 20-year maturity, and a conversion ratio of 32 (i.e., each bond could be convertible into 32 shares of stock). Coupon payments will be made annually. The bonds will be noncallable for 5 years, after which they will be callable at a price of $1,090; this call price would decline by S6 per year in Year 6 and each year thereafter. For simplicity, assume that the bonds may be called or converted only at the end of a year, immediately after the coupon and dividend payments. Management will call the bonds when the bonds' conversion value exceeds 25% of the bonds' par value (not their call price). K 14 15 16 Inputs: 17 Straight bond yield 18 Current stock price 19 Expected growth rate in stock price 20 Dividend yield 21 Par value (and issue price) of convertible bond 22 Coupon rate on convertible bond 23 Maturity of convertible bond (years) 24 Conversion ratio 25 Call protection period (years) 26 Call price when call protection ends 27 Call price decline per year after protection period Policy for call: Call when conversion value exceeds 28 this percent over bond's par value. $22.00 7% 4% $1,000.00 6.00% $1,090.00 $6.00 29 25% 30 31 a. For each year, calculate: (1) the anticipated stock price; (2) the anticipated conversion value; (3) the anticipated 32 straight-bond price; and (4) the cash flow to the investor assuming conversion occurs. At what year do you expect 33 the bonds will be forced into conversion with a call? What is the bond's value in conversion when it is converted at 34 this time? What is the cash flow to the bondholder when it is converted at this time (Hint: the cash flow includes the 35 conversion value and the coupon payment, because the conversion is immediately after the coupon is paid.) 36 37 Will call the issue in the first year that the G H I Anticipate d stock price at year end (1) 22.00 Conversion Value (2) Convert? (Yes, no, or already) Straight debt Cash flow to value of bondholder convertible if converted (3) (4) 39 Year 40 41 42 43 No No No No No 44 45 46 47 48 Tomo WNIOO VOL AWNO 51 52 53 54 55 56 58 60 61 63 Conversion year = 64 AWNOOD 3 Conversion year = 5 Value in conversion = 7 b. What is the expected rate of return (i.e., before-tax component cost) on the proposed convertible issue? 8 9 Using the RATE function: ON= 1 PMT = $60.00 2 PV = -$1,000.00 3 FV = $ 5 Rate = O 7 As a check, using the IRR function and the cash flows in column F O 9 Expected return to bondholders O W
