Valdes Enterprises is considering issuing a 10-year convertible bond that would be priced at its $1,000 par value. The bonds would have an 8.00% annual coupon, and each bond could be converted into 20 shares of common stock. The required rate of return on an otherwise similar nonconvertible bond is 10.00%. The stock currently sells for $40.00 a share, has an expected dividend in the coming year of $2.00, and has an expected constant growth rate of 5.00%. What is the estimated floor price of the convertible at the end of Year 3?
Bond V = $80(PVIFA10%,7) + $1,000(PVIF10%,7) = $902.63.
Conversion V = 20($40)(1.05) 3 = $926.10. The floor value is the greater of the bond value or the conversion value. Thus, the floor value is $926.10.
There are certain things that people in the business world frown upon. Things like lows in the economy, housing crisis,…
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