Call Policy for Convertible Bonds and Signaling

28 Pages Posted: 18 Mar 2010

Date Written: March 16, 2010

Abstract

I present a model of the firm financed with equity and callable convertible debt in the presence of tax, debt restructuring and a call period. Convertible bonds can be exchanged into equity stake upon the call if the conversion price is above the call price at the end of the notice period. Since conversion price is uncertain, firms prefer to wait and call with a premium to ensure conversion. The size of the premium depends on the firm's cost of capital. If market is not transparent, early call of convertible bond may serve as a a good signal about firm's ability to raise cash. Issuing convertible bond with "soft protection" that specifies the significant call premium as part of the contract will improve the total value of firm's marketable claims by eliminating the cost of calling.

Keywords: Convertible bonds, callable bonds, asymmetric information

Suggested Citation

Tserlukevich, Yuri, Call Policy for Convertible Bonds and Signaling (March 16, 2010). Available at SSRN: https://ssrn.com/abstract=1573109 or http://dx.doi.org/10.2139/ssrn.1573109

Yuri Tserlukevich (Contact Author)

Arizona State University (ASU) ( email )

Farmer Building 440G PO Box 872011
Tempe, AZ 85287
United States

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