A firm has outstanding common stock valued at $42 a share. The firm also has convertible bonds that have a $1,000 par value, a 9% semi-annual coupon, and a time to maturity of 16 years. The bonds have a conversion ratio of 23. Comparable, non-convertible bonds have a yield-to-maturity of 8.4%. What is the intrinsic value of this bond?

Question

Quizplus · Accepted Answer

Step 1: Calculate the semi-annual coupon payment:

Coupon payment = $1,000 x 9%/2 = $45

Step 2: Determine the yield-to-maturity for the convertible bond:

PV of the bond = $1,000 x (1 - (1/((1 + 0.084/2)^(2*16)))) + ($45 x ((1 - (1/((1 + 0.084/2)^(2*16))))/0.084))

PV of the bond = $1,117.14

Intrinsic value = (23 x $42) / (PV of the bond / 2) = $1,052.28

Therefore, the best choice is A) $1,052.28.

A Firm Has Outstanding Common Stock Valued at $42 a Share