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Dear Lisa,
I watched one of the Topic Explainer videos on YouTube (Business and Asset Valuations) wherein Jo Tuffil shared a question on convertible debt.
The question clearly stated that the shares are “currently trading on an ex dividend basis, ” meaning the share price is ex-div.
However, I’m curious about what to do if the share price is cum-div in a convertible debt scenario.I am assuming that if I use the cum-div price, the dividend will be effected in the growth.
Please help with clarity on this.
In a convertible debt scenario, if the share price is cum-div, it means that the price includes the value of the dividend that is about to be paid. Therefore when using the cum-div price, you would indeed factor in the dividend when calculating growth, as the cum-div price reflects the current market value of the shares plus the upcoming dividend.
So, if you are using the Dividend Valuation Model you would typically use the cum-div price to account for the dividend that will be received by the shareholder.
The formula for the DVM would include the current dividend plus any expected growth, which would be relevant in this case since the cum-div price reflects the value of the shares before the dividend is deducted.
Thank you,
But does this mean that I should use the CUM DIV share price to calculate what the CONVERSION VALUE of the shares will be in n-years time?
To clarify again, I am sorry I wasn’t clear enough
In a convertible debt scenario, if the share price is cum-div, you would need to deduct the dividend from the cum-div price to arrive at the ex-div price.
This is because the cum-div price includes the value of the dividend that is about to be paid, while the ex-div price does not.
Therefore, use the ex-div price in your calculations, by subtracting the current dividend from the cum-div price
So
Convertible debt is either shares or redemption in cash at either nominal, premium or even discounted
So it’s 100 or say 105 if 5% premium or say 2% discount thus 98Let’s say it’s a premium of 5% thus 105
Or you could convert into 20 shares which are valued at 4.85 with 5% growth over 2 years
This would be 20*4.85*1.05^2 = 106.94 so you would take the sharesThe 4.85 would need to be ex-div
So if it’s cum div of say 5, div about to be paid is 0.15 then the ex-div is 4.85Does this help?
Yes, Lisa.
It does help A LOT.
Thank you so much for your patience. 🙂One more question, though I’ve never seen this asked before:
Why would redemption be at a discount?According to the explanations of John Moffat in the lecture videos, he explained why redemption will be at a premium – which is very sensible and logical.
But why would debt lenders accept a lower than the par value at redemption?John is right it’s not likely at FM standard exam. It was just to explain the scenario
If you don’t mind I will leave it there..
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