A firm issues the convertible debt shown above. The price of stock in this company on July 1, 2008 is $27.24. What is the minimum conversion ratio that would make a bondholder prefer to convert rather than accept the call price?

Question

Quizplus · Accepted Answer

The conversion price is calculated by dividing the bond's principal amount ($1,000) by the conversion ratio. 
Conversion price = $1,000 / Conversion ratio
For a bondholder to prefer to convert instead of accepting the call price, the stock price needs to be higher than the call price. 
Call price = $1,047.50
To find the minimum conversion ratio: 
Conversion price < $27.24
$1,000 / Conversion ratio < $27.24
Conversion ratio > 36.73
Since the conversion ratio must be a whole number, the minimum conversion ratio that would make a bondholder prefer to convert is 38 shares per $1,000 principal amount (choice C).

A Firm Issues the Convertible Debt Shown Above