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The large volume of literature on convertible bonds addresses two basic complexes of problems: - Why and under which conditions do firms issue convertible bonds? - What is the fair value of a convertible bond? Christian Koziol's dissertation deals with the second problem. His dissertation differs from the predominant part of the literature in two aspects. First, he explicitly considers the strategic character of the conversion decision, as the timing and the volume of con version affect the wealth of the stockholders and the remaining convertible bond holders. Second, he deals with a more general capital structure, where the firm has subordinated debt outstanding in addition to convertible bonds and stocks. Within this setting, he characterizes and analyzes the optimal conversion strategy and the endogenous prices of convertible bonds, stocks, and the additional debt for three cases: all convertible bonds are held by a monopolist, the convertible bond holders act competitively, and the compet itive bond holders are constrained to convert their bonds in one block. The third variant is typical for the option-theoretic valuation of convertible bonds that uses the typical high contact condition for American options.
List of contents
1 Introduction.- 2 Convertible Bonds: Markets, Motives, and Traditional Valuation.- 2.1 The German Convertible Bond Market.- 2.2 Motives for the Use of Convertible Bonds.- 2.3 Valuation of Convertible Bonds.- 2.4 Analysis of Observed Conversion Volume.- 3 General Framework for the Analysis of Convertible Bonds.- 3.1 Model Framework.- 3.2 Asset Pricing in the Presence of Interest Rate and Firm Value Uncertainty.- 3.3 Basic Relations between Asset Values.- 4 Optimal Conversion Strategies and Valuation of Convertible Bonds at Maturity.- 4.1 Block Conversion.- 4.2 Unrestricted Conversion.- 4.3 Monopolistic Conversion.- 4.4 Analysis without additional Debt.- 5 Optimal Conversion Strategies and Valuation of Convertible Bonds before Maturity.- 5.1 Block Conversion.- 5.2 Unrestricted Conversion.- 5.3 Monopolistic Conversion.- 5.4 Analysis without additional Debt.- 6 Comparison of the Results for the three Conversion Variants.- 6.1 Analysis at Maturity of the Convertible Bond.- 6.2 Analysis before Maturity of the Convertible Bond.- 6.3 Analysis without additional Debt.- 7 Optimal Conversion Strategies and Valuation of Convertible Bonds in a Multi Period Framework.- 7.1 Optimal Conversion Strategies and Valuation of Convertible Bonds at an Arbitrary Point in Time.- 7.2 Comparison of the Results for the three Conversion Variants at an arbitrary Point in Time.- 7.3 Relations between the Conversion Strategies and between the Asset Values over Time.- 8 Conclusion.
About the author
Dr. Christian Koziol ist wissenschaftlicher Assistent bei Prof. Dr. Dr. h.c. Wolfgang Bühler am Lehrstuhl für Finanzierung der Universität Mannheim.
Summary
Convertible bonds are interest bearing securities that can be converted into stocks. Therefore, the investors' strategy is a fundamental pricing factor. It is particularly important whether a firm has debt outstanding in addition to convertible bonds and stocks, because the conversion decision results in a wealth transfer between debt and stock holders.
Christian Koziol analyzes conversion strategies and the related values of stocks and convertible bonds when firms have additional debt outstanding. For this purpose, he applies a multi period framework in the presence of both firm value and interest rate uncertainty. He shows that various conversion strategies can be optimal, which result in different values for stocks and convertible bonds, depending on the underlying conversion variant, i.e. monopolistic conversion, perfect competition, or block conversion. A comparative static analysis examines the differences between the properties of the optimal conversion strategies and between the asset values for the three conversion variants. One of the - partly surprising - results is that the convertible bond value is highest under monopolist conversion and that the value under block conversion is lower than under perfect competition.
