Question

A company has a convertible bond outstanding with a conversion price of $50 and maturity in 10 years. The company's share price is $24.25. This convertible bond is comparable to a 10-year coupon bond traded in the market with face value of $1,000, annual coupon rate of 9%, and required return of 12%. What is the floor value of this convertible bond?

$485

$928.34

$24.25

$2,575

$830.49

Answer 1

The floor price is computed as shown below:

Floor price is the minimum of Conversion value or value of 10 year coupon bond

Conversion value is computed as shown below:

= Conversion price x company's share price

= $ 50 x $ 24.25

= $ 1,212.5

Value of 10 year coupon bond is computed as shown below:

= $ 90 / 1.12¹ + $ 90 / 1.12² + $ 90 / 1.12³ + $ 90 / 1.12⁴ + $ 90 / 1.12⁵ + $ 90 / 1.12⁶ + $ 90 / 1.12⁷ + $ 90 / 1.12⁸ + $ 90 / 1.12⁹ + $ 90 / 1.12¹⁰ + $ 1,000 / 1.12¹⁰

= $ 830.49 Approximately

So the floor value will be the minimum of $ 1,212.5 or $ 830.49.

So the correct answer will be option of $ 830.49

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