Please show calculator entries and steps along with the solution: Maese Industri

Question

Please show calculator entries and steps along with the solution: Maese Industries has warrants outstanding that permit the holders to purchase one share of stock per warrant at a price of $25. We are to assume the firms stock now sells for $20 per share. The company wants to sell some 20-year, $1000 par value bonds with interest paid annually. Each bond will have attached 50 warrants, each exercisable into one share of stock at an exercise price of $25. The firms straight bond 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 bonds with warrants if they are to clear the market? The convertible bond should have an initial price of $1000

Explanation / Answer

Answer: Value of warrants + Value of bond = $1,000

Value of warrants:

No of warrants = 50

Warrant Value $3

Thus, Total value = $150

Value of bond:

n = 20 Years

r = 12% per year

PVIF = 0.1037

PVIFA = 7.4694

Redemption value = Par value = $1,000

PVIF*Redemption value = $103.70

PVIFA*Interest payment per period = 7.4694 * Interest payment per period

$150 + 103.70 + 7.4694 * Interest payment per period $1,000 Interest

7.4694* Interest payment Payment per Period = $746.3

Interest payment Payment per Period = $99.91

$100 (Rounded off)

Therefore, the annual dollar coupon payment = 10% Therefore, the coupon rate = 10%

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

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