Homework Week 1 Fi516 Essay

284 words - 2 pages

Problem 19-3 (Chapter 19) on Warrants
This problem is posted on page 781 of the textbook.
Warrants

Maese Industries Inc. has warrants outstanding that permit the holders to purchase 1 share of stock per warrant at a price of $25.

a. Calculate the exercise value of the firm’s warrants if the common sells at each of the following prices: (1) $20, (2) $25, (3) $30, (4) $100. (Hint: A warrant’s exercise value is the difference between the stock ...view middle of the document...

Assume the firm’s stock now sells for $20 per share. The company wants to sell some 20-year, $1,000 par value bonds with interest paid annually. Each bond will have attached 50 warrants, each exercisable into 1 share of stock at an exercise price of $25. The firm’s straight bonds yield 12%. Assume that each warrant will have a market value of $3 when the stock sells at $20. What coupon interest rate, and dollar coupon, must the company set on the bonds with warrants if they are to clear the market? (Hint: The convertible bond should have an initial price of $1,000.)
Solution:
a. Expiration value = Current price - Striking price.

Current Striking Expiration
Price Price Value
$ 20 $25 -$5 or 0
25 25 0
30 25 5
100 25 75


b. V Package = $1,000 = = VB + 40($3)
VB = $1,000 - $150 = $850.

$850 = =
= I (7.4694) + $1,000(0.1037) = I(7.6494) + $103.70
$746.30 = I (7.4694)
I = = $99.91 $100.

Therefore, the company would set a coupon interest rate of 10 percent, producing an annual interest payment I = $100.

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