A 10-Year Convertible Bond with a 6% Coupon Is Selling

question 54

Essay

A 10-year convertible bond with a 6% coupon is selling for $1,050. Each bond can be exchanged for 20 shares and the stock price currently is $49 per share. Other comparable bonds are selling at a yield to maturity of 8%. What is the value of the bondholders' call option? Why is the bond selling for more than its conversion value?

---

Definitions:

Residual Income

The amount of net income generated in excess of the minimum rate of return expected by shareholders or creditors, often used as a performance measure for investment or business valuation.

Stern & Stewart

A global management consulting firm known for its development of the Economic Value Added (EVA) concept.

Common Size Balance Sheets

Balance sheets expressed as percentages, allowing for easier comparison across companies or periods by standardizing financial statements.

FIFO vs. LIFO

Accounting methods for valuing inventory; First In, First Out (FIFO) and Last In, First Out (LIFO) affect the cost of goods sold and inventory valuation.