CHAPTER 24
S&S AIR’S CONVERTIBLE BOND
1. Chris is suggesting a conversion price of $45 because it means the stock price will have to increase
before the bondholders can benefit from the conversion. Even though the company is not publicly
traded, the conversion price is important. First, the company may go public in the future. The case
does not discuss whether the company has plans to go public, and if so, how soon it might go public.
If the company does go public, the bondholders will have an active market for the stock if they convert.
Second, even if the company does not go public, the bondholders could potentially have an equity
2. The floor value is the maximum of the conversion value and the intrinsic value. The conversion value
of the bond is given as $680.56. The intrinsic value of the bond is:
3. The conversion ratio of the bonds is:
4. The conversion premium is the increase in stock price necessary to make the conversion option
possible. Since the stock is currently selling for $30.63, and the conversion price is $45, the conversion
5. The option value of a convertible bond is defined as the difference between the market value of the
bond and the maximum of its straight value and conversion value. Since the bond is sold at par value,
6. Todd’s argument is wrong because it ignores the fact that if the company does well, bondholders will
7. Mark’s argument is incorrect because the company is issuing debt with a lower coupon rate than
8. Reconciling the two arguments requires that we remember our central goal: to increase the wealth of
the existing shareholders. Thus, with 20/20 hindsight, we see that issuing convertible bonds will turn
out to be worse than issuing straight bonds and better than issuing common stock if the company
prospers. The reason is that the prosperity must be shared with bondholders after they convert.
In contrast, if a company does poorly, issuing convertible bonds will turn out to be better than issuing
9. The call provision allows the company to redeem the bonds at the company’s discretion. If the