Because the security is first sold with a conversion

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Unformatted text preview: . Because the security is first sold with a conversion price above the current market price of the firm’s stock, conversion is initially not attractive. The issuer of a convertible could alternatively sell common stock, but only at or below its current market price. By selling the convertible, the issuer in effect makes a deferred sale of common stock. As the market price of the firm’s common stock rises to a higher level, conversion may occur. Deferring the issuance of new common stock until the market price of the stock has increased means that fewer shares will have to be issued, thereby decreasing the dilution of both ownership and earnings. Another motive for convertible financing is its use as a “sweetener” for financing. Because the purchaser of the convertible is given the opportunity to become a common stockholder and share in the firm’s future success, convertibles can be normally sold with lower interest rates than nonconvertibles. Therefore, from the firm’s viewpoint, including a conversion feature reduces the int...
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