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Hi Mike, Please am a little confused about convertible loan note.
Suppose a company issue a $80 million 8% convertible loan note. The term of conversion is $100 of loan note will be converted into 50 equity in 5 year time. Effective interest rate is 12%
The initial measurement will be:
6400*3.04 =19456
86400*0.57= 49248
Debt element is $68704
Equity option is $11296
Proceeds is $80000
*** So now my question is, at the end of the 5 year period if the option to convert to shares is chosen, will the debt element of $68704 be converted into 68704/100*50 shares to give 34352 shares. And must it be added to the initial equity option calculated earlier on 11296 to give a total of 45648. Thank you very much.That sounds good to me EXCEPT when the option to convert is exercised and the shares are issued, the nominal value of the shares will be added to the line “Equity shares” and the premium of (80,000 – 34,352 ) will be added to the Share Premium account
Hi.,Dear Teacher Mike please..
Co X issue 12%bond with per value $650m with issue cost 1.5%.It redeem with premium 10% after 5yrs.I had cleared this step.But …,
(or) It is convertible to share under the condition of 2sh for everu $5 of bond.I dn’t cleary understand this statement.Which mean?
And then Market value of smilior bond without conversion right is15%.
How to calculate effective %?
Hoping …ur kindly explain & solution.Instead of having money in settlement after 5 years, the lenders may choose to convert the loan into shares. This is a mixed instrument (or compound instrument)
The technique is to find a value for either the loan element or the share element (but it’s got to be exceedingly rare that we can value the share element)
So, take all the cash flows associated with the bond (interest and repayment) discount them to a “today” value, add up the discounted values, deduct that total from the face value and that leaves you with the equity value to be credited to “Other components of equity”
Ok?
As for effective rate, you gave it to me in your post – its 15% according to you!
Yeah! But Teacher….
r= [ (n square root of Future value divided by present value) ×100 ]+ market %
Calculation for r method is right or not?
r=[5 square root of 715 / 640.25 ]×100 +15 = 17.2% ??????
because above question include market % for without conversion.
Thanks for ever …in my mind …for your reply Teacher Mike !What!!!!!
Am I meant to understand that? I’m F7 and law and auditing and P1 – what language are you talking here with your “r”s and square roots?
Discount the future cash flows related to the loan.. Add up those discounted values. Compare the total with the face value of the loan and the rest is the equity element
And so far as I am aware, your “r”s doesn’t come into the problem
@gyanmichael said:
Hi Mike, Please am a little confused about convertible loan note.<br />
Suppose a company issue a $80 million 8% convertible loan note. The term of conversion is $100 of loan note will be converted into 50 equity in 5 year time. Effective interest rate is 12%<br />
The initial measurement will be:<br />
6400*3.04 =19456<br />
86400*0.57= 49248<br />
Debt element is $68704<br />
Equity option is $11296<br />
Proceeds is $80000<br />
*** So now my question is, at the end of the 5 year period if the option to convert to shares is chosen, will the debt element of $68704 be converted into 68704/100*50 shares to give 34352 shares. And must it be added to the initial equity option calculated earlier on 11296 to give a total of 45648. Thank you very much.Teacher, please help me to understand this point: I feel confuse already.
I thought that Co. issue 80mil loan note. If end of the period the holder decide to convert it to share then total shares should be: 80m/100*50=40mil shares. There should be $40mil in Share Capital and the balance in Share premium?
Yes, there will be (if those are the terms of conversion)
But what if the lenders choose not to convert but instead want their money back?
That’s why, throughout the life of the convertible loan instrument, we need to split the amount into the debt element and the other components of equity element
If you’re still not happy, post again
Only in the spelling – “debenture” is spelt deb ….oh, you know that!
And “loan” is spelt normally just a little bit different than you have spelt it!
For F7, debenture = debenture stock = debenture loan = loan stock = secured loan = debenture warrants = ………
For F7, no, no difference
Dear Mike,
Please forgive me for being thick, but I struggle with convertible loan notes.With regards to initial question above –
Suppose a company issue a $80 million 8% convertible loan note. The term of conversion is $100 of loan note will be converted into 50 equity in 5 year time. Effective interest rate is 12%What makes up:
*3.04
*0.57?The initial measurement will be:
6400*3.04 =19456
86400*0.57= 49248.57 is the discount factor for a sum receivable in 5 years’ time at a discount rate of 12% (it’s actually .5674 but the examiner will only VERY rarely go beyond 2 decimal places)
If you discount $10,000 at 12% for 1 year, you arrive at a present value of $8,929
At the end of the second year, this has a present value of $7,972
After year 3, it’s down to $7,118
And year 4, down to $6,355
As a result of discounting for 5 years, the present value of that $10,000 is $5,674
The discount factors for each of the individual 5 years is calculated as 1/1.12 for as many years as you are considering so, taking the above factor of .57 we can arrive at that by taking 1/1.12/1.12/1.12/1.12/1.12
If we only wanted to know the discount factor for,say, the second year, we would divide by 1.12 only twice
Thus 1/1.12/1.12 = .7972
This would more normally be written as 1/1.12 x 1/1.12
Ok so far?
Year 1 discount factor is .8929
Year 2 discount factor is .7972
Year 3 discount factor is .7118
Year 4 discount factor is .6355
Year 5 discount factor is .5674Now, if you add those factors together, that represents the cumulative discount factor of an amount of money received each year for 5 years at an interest / discount rate of 12%
And that total is 3.605
!!!!!
I should have checked the original question that was posted in November 2012! It was that question that gave me the cumulative discount factor of 3.04 and I never checked 🙁
It should have been as I have calculated for you – 3.605
Even rounding to only 2 decimal places the cdf is 3.61
Does this clear it up for you?
hhmm Mike.. where does the original poster get the PV of the redeemable to be 86400*0.57= 49248.. I know this is an old question.. but approach/ calculation should stay the same?
I would have done this:
PV of interest payments=$80m*8% =6400*3.04 (CDF @12% 5 YEARS)= 19456 *agreed with original poster*
PV of redeemable= $80m*0.57 (DF @12% 5 YEARS)=45.6M ????? where did he get the 86.4M from? should it not be 80M??
Where have I gone wrong?
I have o idea
When a student posts a question I tend to take it at face value … as being accurately posted
I can’t see any reference to 86.4 other than in the original post – sorry
ok but if you were to use the information from the question.. which is what I did for practise to see if I can do the question…
$80 million 8% convertible loan note. The term of conversion is $100 of loan note will be converted into 50 equity in 5 year time. Effective interest rate is 12%. calculate the liability/ equity.
then the PV of convertible loan note = $80m*0.57 (DF @12% 5 YEARS)=45.6M not the 86400*0.57= 49248 as the original poster suggested.. I just want to see if there is something I am missing.. if I was to take the question at face value? do you follow sir?
actually..no worries.. i think the poster was inaccurate.. i don’t need you to confirm that.. I have already myself.. just wanted re-assurance.. but no time to waste.. on something so small!
thanks Mike
I believe that you should also be taking in the present value of the future payments of the loan interest but, as you say, let’s move on
Dear Mike,
Just to follow up on the above. I am assuming that the shareholder will exercise the right only when the equity shares is higher than loan+interest left at conversion.
Therefore, I am assuming that there is a ‘loss’ arising ? If that’s the case, where is it posted in P/L and Cash flow stat.?
Thanks for your time.
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