 Why is it against the law for a man living in

South Carolina to be buried in North

Carolina?

 Why the Eskimos doesn't hunt for penguins?

 The Mississippi river is right in between of

Tennessee and New Orleans. If a plane
crashes in the river, where will the survivors
be buried?
Convertible bond is a type of convertible
securities.

Convertible bond is a bond issue that can be

converted/exchanged for a specified number of
common stock.
• Usually issued as a debenture or long term corporate notes.
• Investing in CB give investors the option to convert the
security into common stock.
 PV = Par Value = RM1,000
 CP = Conversion Price
 CR = Conversion Ratio
 CV = Conversion Value
 MPcs = Market Price of common stocks
 MPcb = Market Price of convertible bond
 Cpm = Conversion premium
1. Par Value

• Similar to the normal bond: RM1,000

2. Convertibility

• The bond may be converted into stocks.

3. Conversion period

• The conversion is valid only for a certain time known as the

conversion period.
• Refers to the period during which the CB can be exchanged
into stocks.
 Capital to raise = Number of bonds issued x RM1,000

4) The amount of capital to raise:

• Each issue (unit) of bond is priced at RM1,000 (the PV).

• To obtain the required amount of funds, the issuer will
announce how many units of bond are to be issued.
• Therefore, the amount of capital that the company wishes
to raise is:
Example 1:
ABC company issues 5,000 units of bonds. How much
capital can the company raise?
Example 2:
XYZ company wishes to raise RM20,000,000 capital from
bond. How many bonds need to be issued?
 5. Conversion Ratio (CR)

• Is the number of shares received when a CB is

converted.
• How many shares will you get if the CB is converted?

Conversion Ratio =
 6. Conversion Price (CP)
• CP is the price at which the convertible bond can be
converted into stocks.
• The no of shares obtained after the conversion is dependent
on the CP.
• The formula is just the reverse of CR.

Conversion Price =
 ALTERNATIVE WAY OF FINDING
Conversion Price:

 The Conversion Price can also be given in the form

of premium/discount from its market price.
 E.g: APR2010 Q4
“Conversion price is at premium of 20%, and the company's
common shares are now trading at RM18 per share.”
 Thus, in this case:

CP = Market Price of Common Share x (1 + % premium)

or;
CP = Market Price of Common Share x (1 - % discount)
 7. Conversion Value (CV)

• It is the total market value of the stocks that would be

received if the CBs are converted.
• It is better to convert if the Conversion Value is larger
than the Par Value of the bond.

Conversion Value = Conversion Ratio x Market Price

of the stock
 Is it advisable to convert the CB into common
stocks?
8. Conversion Premium (CPm)

Conversion
• Is the amount or percentage by which
in RMthe market
and % value
of CB exceeds
Premium the conversion value.
• This will show the amount of profits to be received by
the issuer (loss to investors) if the CB is converted into
stocks.
Cpm per
bond
• Thus, investors would prefer negative premium since
Cpm
this will be equivalent to their profit.
• CPm can be calculated in two ways:
• Conversion Premium per bond
Cpm per
• Conversion Premium per share share
* both can be calculated in RM and % basis.
8. Conversion Premium (CPm)

• Is the amount or percentage by which the market value

of CB exceeds the conversion value.
• This will show the amount of profits to be received by
the issuer (loss to investors) if the CB is converted into
stocks.
• Thus, investors would prefer negative premium since
this will be equivalent to their profit.
• CPm can be calculated in two ways:
• Conversion Premium per bond
• Conversion Premium per share
* both can be calculated in RM and % basis.
Conversion Premium = Market Price of bond – Conversion Value RM

Conversion Premium = Market Price of bond – Conversion Value %

Conversion Value

 Example 4: the market price of bond is RM880

while the conversion ratio is RM 20 shares. The
market price of the share is RM RM35. Find the
Conversion Premium in RM and %.
 First, determine the CV:

 Then, apply the CPm formula:

CPm per share = Conversion Price – Market Price of stock RM

CPm per share = Conversion Price – Market Price of stock %

Market Price of stock

 Example 5: The conversion price for the CB is

RM40. The common stock is currently selling
at RM30. Find the conversion premium per
share in RM and %.
9. Market Value / Price of a Convertible Bond.

• Similar to straight bond.

• Is the present value of Par Value and Coupon
payments.
• The ‘market value’ or ‘price of the bond today’ is the
Pb (intrinsic value) and can be obtained using the
straight bond formula.
In 2012, AIM Berhad issued RM 100,000,000 with 6% convertible bond that comes
due in 2030. The conversion price of these convertibles is RM40 per share. The price
of the common stock is now RM27.25 per share. These convertibles are yielding
9%. The market price of the convertibles is now RM804.25. Determine the:

i) Conversion ratio (1 mark)

ii) Conversion value (1 mark)
iii) Conversion premium per share (1 mark)
iv) Conversion premium in Ringgit (1 mark)
v) Conversion premium in percentage (2 marks)

vi) Assume that the firms' operating profit is RM15 million and the number of
shares outstanding is 10 million. Show the effect on EPS before and after
conversion. Tax for the Company is 40%.
(6 marks)
Destini Bhd pays RM100 million convertible bond with
6 percent per annum (maturing 20 years is convertible at the
holder's option into 20 shares of common stock). The bond is
currently traded at RM800. The stock (which pays RM0.75 a
share in annual dividends) is currently priced in the market at
RM35 a share.

a) What is the current yield of the convertible bond? (2 marks)

b) What is the conversion price? (2 marks)
c) What is the conversion ratio? (1 marks)
d) What is the conversion value of this issue? (2 marks)
e) What is conversion premium as a percentage? (3 marks)
f) What is the yield-to-maturity of the convertible bond? (3 marks)
 INVESTING IN CB:
ADVANTAGES DISADVANTAGES

It is a better investment as
compared to normal bond.
The coupon rate for CB is
• It provides current income just lower than normal bond.
like ordinary bonds, but with an
option to convert.

Can convert status from ‘creditor’ It is possible that the market

into ‘owner’ of the company.
Owner of the company can
participate in enjoying the
company’s profits should if the
profit is high.
price of common stock did
not go beyond the
conversion price, thus
making a conversion is
unattractive.
 Interest expense = C x capital raised from bond

Sales Tax expense = Tax rate x EBT

-Cost of Goods Sold (COGS)
GROSS PROFIT
-Operating Expenses
EARNING BEFORE INTEREST AND TAX (EBIT)
-Interest expense (% of capital from bonds)
EARNING BEFORE TAX (EBT)
-Tax expense (% of EBT)
EARNING AFTER TAX (EAT)
- Preferred share dividends
EARNING AFTER TAX (EAT)

EPS =
 Before Financing with CB

After Financing, but before conversion

After Part Conversion

After Full Conversion

 1) Before financing with CB.
The bond has not yet been issued  there is no interest payment.
The company already has common stock outstanding.

2) After financing with CB (before conversion).

The bond has been issued. But, no conversion has taken place.
So, the number of stocks is not
Interest has to be paid in full. affected.
 3. After part conversion.
E.g: 40% conversion Interest payment is
Number of stocks will
means 40% of bond has reduced by the same
increase due to the
been converted into percentage of
conversion.
stocks. conversion.

4. After full conversion.

Number of stocks will
All bond are already There is no interest
further increase due to
converted into stocks. payment.
full conversion.
 STAGES: Bond Common Interest No of stock
Stock (Coupon)
Before X √ X Already
Financing available

After √ √ √ Not affected

financing, but Interest is
before paid in full
conversion from the
total fund
raised.
After part √ √ Interest is Increase
conversion No of bond reduced by
decrease by the same
the same percentage
percentage

After full X √ X Further

conversion increase
 CB issuance and conversion will affect the earnings (EBIT,
EAT, EPS) and the number of shares outstanding.

When a CB is issued by the company When the CB is converted into shares

the company has to pay interest

(coupon rate). So, the interest payments the number of bond is reduced. The
(costs) are high for the company interest payment will be reduced too.

So, the earnings are higher now.

the earnings (profit) is lower. • However, the number of shares will also
increase.
 The information for Star Legacy Group is as
follows:
The current Earnings Before Interest and Tax is RM15 million

The current number of shares outstanding is 10 million, and is being traded at RM25

Tax rate is 30%

 The company has the following plan:

 To issue 50,000 units of Convertible Bonds with a
coupon rate of 10% and matures in 10 years.
 The conversion price is set at RM20.
 The company expects the EBIT to increase by 20%
after the financing with convertible bonds.
 Find:
a) The amount of capital to raise from the CB issuance.
b) Conversion Price.
c) Conversion Ratio.
d) Conversion Value.
e) The number of shares to issue if the bonds are fully
converted, and the total number of shares.
f) Show the effect on Earning Per Share (EPS):
a) Before financing with CB.
b) After financing with CB (before conversion)
c) After 40% conversion.
d) After full conversion.
 After financing with CB
Before
financing with Before After 40% After full
CB conversion conversion conversion
2
EBIT 15,000,000 18,000,000 18,000,000 18,000,000
- Interest 3 5,000,000 5 3,000,000
Expenses (10%) - -
EBT
15,000,000 13,000,000 15,000,000 18,000,000
- Tax Expenses 1
(30% of EBT) 4,500,000 3,900,000 4,500,000 5,400,000
EAT
10,500,000 9,100,000 10,500,000 12,600,000

EPS = 10,500,000 9,100,000 10,500,000 12,600,000

10,000,000 10,000,000 11,000,000 12,500,000
6 4
= RM1.05 = RM 0.91 = RM 0.95 = RM 1.01
Destini Bhd pays RM100 million convertible bond with 6 percent
per annum (maturing 20 years is convertible at the holder's
option into 20 shares of common stock). The bond is currently
traded at RM800. The stock (which pays RM0.75 a share in
annual dividends) is currently priced in the market at RM35 a
share. The company has 50,000,000 common shares
outstanding, operating profit for the company is RM20 million.
The company expects to increase its operating profit by 5
percent after financing with these convertible bonds. Currently,
the company's tax rate is 20 percent.
g) What is the earning per share before financing with convertible bonds?
(2 marks)
h) What is the earning per share after financing with convertible bonds?
(2.5 marks)
i) What is the earning per share after 100 per cent conversion?
(2.5 marks)