What is a Convertible bond
A convertible bond is a type of debt securities that can be converted into a certain amount of equity at certain times during the life of the bond, usually at the discretion of the bondholder. Convertible bonds are a flexible financing option for companies and is especially useful for companies with high risk/reward profiles. Convertible bonds are sometimes called “summary”.
Breaking down the ‘convertible Bonds’
Convertible bonds are issued by companies for a number of reasons. The issue of convertible bonds is one way for a company to minimize negative investor interpretation of its corporate actions. For example, if an already public company chooses to issue stock, the market usually interpreterpath it as a sign that the company’s share price somewhat overrated. To avoid this negative impression, the company may choose to issue convertible bonds, bondholders are likely in any case to convert for shares of the company should continue to do well.
Another reason for issuing convertible bonds is that investors demand security that optimally protests their main in the red, but allows them to participate in the growth of the base company to succeed. A startup or relatively new company, for example, can be a risky project, which loses a lot of money on one end, but can lead a company to profitability and outsized growth. Convertible bonds investors can get back some of the principal after the failure of the company, but can benefit from capital growth through the conversion of bonds into shares, if the company is successful. Convertible bonds are a useful financing option for investors and companies when the success of the company is reminiscent of the binary result.
Convertible bonds allow companies issuing them to reduce their borrowing costs. From the point of view of the investor, convertible debentures value-added component built into it; it is, essentially, in connection with a stock option, in particular, the call option attached to it. Thus, it aims to offer lower returns in exchange for the value of the option to trade bonds in the stock. Otherwise, the bond simply pays interest to the investor for his investment capital.
Example of convertible bonds
The company issues $ 1,000 par value of convertible bonds paying 4% per annum convertible with the ratio of 100 shares of the company for each convertible bond and maturing in 10 years for$ 1000. At the end of nine years, a year before maturity, the investor is entitled to $1,000 In principal plus $40 in interest payments a total of $1,040 if the investor does not convert the bonds into shares. However, the company is currently trading at $11 after a successful quarter; thus, 100 of the company’s shares are now worth $1,100 (100 shares x 11 price per share), exceeding the value of the bond. The investor is likely to convert the bonds into equity, receiving 100 shares in the process, and he can sell them on the market for $ 1,100 in total.