Assume the firm\'s stock now sells for $20 per share. The company wants to sell

Question

Assume the firm's stock now sells for $20 per share. The company wants to sell some 20-year, $1,000 par value bonds with interest paid annually. Each bond will have attached 50 warrants, each exercisable into 1 share of stock at an exercise prices of $25. The firm's straight bonds 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 the bonds with warrants if they are to clear the market?

Explanation / Answer

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

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

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