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# answers-odd-problems-ch21 - Chapter 21 Hybrid Financing...

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Chapter 21 Hybrid Financing: Preferred Stock, Warrants, and Convertibles SOLUTIONS TO END-OF-CHAPTER PROBLEMS 21-1 First issue: 20-year straight bonds with an 8% coupon. Second issue: 20-year bonds with 6% annual coupon with warrants. Both bonds issued at par \$1,000. Value of warrants = ? First issue: N = 20; PV = -1000, PMT = 80, FV = 1000 and solve for I = r d = 8%. (Since it sold for par, we should know that r d = 8%.) Second issue: \$1,000 = Bond + Warrants. This bond should be evaluated at 8% (since we know the 1st issue sold at par) to determine its present value. Then the value of the warrants can be determined as the difference between \$1,000 and the bond’s present value. N = 20; I = r d = 8; PMT = 60, FV = 1000, and solve for PV = \$803.64. Value of warrants = \$1,000 - \$803.64 = \$196.36. 21-3 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. No precise answers are possible, but some “reasonable” warrant prices are as follows: Current Warrant Stock Price Price Premium \$20 \$ 2 \$ 7 25 4 4 30 7 2 100 76 1 Mini Case: 21 - 1

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c. (1) The longer the life, the higher the warrant value. (2) The more variable the stock price, the higher the warrant value. (3) The higher the expected EPS growth rate, the higher the warrant price. (4) Going from 0 to 100 percent payout would have two possible effects. First, it might affect the price of the stock causing a change in the formula value of the warrant; however, it is not at all clear that the stock price would change, let alone what the change would be. Second, and more important here, the increase in the payout ratio drastically lowers the expected growth rate. This reduces the chance of the stock going up in the future. This lowers the expected value of the warrant, hence the premium and the price of the warrant. d. V Package = \$1,000 = warrants the of Value bond the of Value debt Straight + = V B + 40(\$3) V B = \$1,000 - \$150 = \$850.
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