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To help clarify some of these concepts, we present a hypothetical example in the table below and graphically in Figure 2-6. Assume that a new issue convertible has come to market. It has a 5 percent coupon and 10 years to maturity. The issuing company has other 10 year debt that carries an 8 percent yield, and the company's stock is currently trading at $42.
| XYZ Company |
|
| Convertible Bond |
|
| Coupon |
5% |
| Maturity |
10 years |
| Straight bond yield to maturity |
8% |
| Conversion price |
$50/share |
| Current stock price |
$42/share |
| Conversion ratio |
20 shares per bond |
Figure 2-6
Hypothetical Convertible Bond
The bond indenture specifies a conversion price of $50. Since we know that the conversion price is the effective price for conversion into stock with the bond at par, we divide the par value of the bond ($1,000) by $50, resulting in a conversion ratio of 20 shares. To calculate the current conversion value, we know that the stock price is currently $42. Multiplying $42 by 20 shares, we get a current conversion value of $840. If the issue is sold at par, then the conversion premium would be 19 percent ([$1,000 - 840]/840). The investment value of the convertible at issuance would be the security with the 5 percent coupon discounted at a yield to maturity of 8 percent. The result, according to standard bond calculations, is 79.87, or a dollar value of $798.70. The investment premium would be 25.20 percent ([$1,000 - 798]/798).
 The Ideal Convertible Bond
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