Convertible bond

In <a href="/facts/Finance/fLh1GgN8">finance</a>, a convertible bond, convertible note, or convertible debt (or a convertible debenture if it has a maturity of greater than 10 years) is a type of <a href="/facts/Bond_(finance)/qlmpLj0k">bond</a> that the holder can convert into a specified number of shares of <a href="/facts/Common_stock/R0jYTr9Q">common stock</a> in the issuing <a href="/facts/Types_of_companies/KB4c0dFB">company</a> or cash of equal value. It is a <a href="/facts/Hybrid_security/0I1YNn9z">hybrid security</a> with debt- and equity-like features. It originated in the mid-19th century, and was used by early <a href="/facts/Speculation/BntB5nqU">speculators</a> such as <a href="/facts/Jacob_Little/Ws2KVt4B">Jacob Little</a> and <a href="/facts/Daniel_Drew/13K6DsCk">Daniel Drew</a> to counter <a href="/facts/Cornering_the_market/92zKR7ry">market cornering</a>.
Convertible bonds are also considered <a href="/facts/Security_(finance)/lJRYHKgD">debt security</a> because the companies agree to give fixed or floating interest rate as they do in common bonds for the funds of investor. To compensate for having additional value through the option to convert the bond to stock, a convertible bond typically has a <a href="/facts/Coupon_(bond)/dEY27Cne">coupon</a> rate lower than that of similar, non-convertible debt. The investor receives the potential upside of conversion into equity while protecting downside with cash flow from the coupon payments and the return of principal upon maturity. These properties—and the fact that convertible bonds trade often below fair value—lead naturally to the idea of <a href="/facts/Convertible_arbitrage/Sce2Ac3a">convertible arbitrage</a>, where a long position in the convertible bond is balanced by a short position in the underlying equity.
From the issuer's perspective, the key benefit of raising money by selling convertible bonds is a reduced cash <a href="/facts/Interest/qfNEuKg0">interest</a> payment. The advantage for companies of issuing convertible bonds is that, if the bonds are converted to stocks, companies' debt vanishes. However, in exchange for the benefit of reduced <a href="/facts/Interest/qfNEuKg0">interest</a> payments, the value of shareholder's equity is reduced due to the <a href="/facts/Stock_dilution/RrJY8qNW">stock dilution</a> expected when bondholders convert their <a href="/facts/Bond_(finance)/qlmpLj0k">bonds</a> into new <a href="/facts/Shares/Tu13xJbS">shares</a>.
Convertible notes are also a frequent vehicle for <a href="/facts/Seed_money/RDEjrBJ6">seed investing</a> in <a href="/facts/Startup_company/9lsjFELt">startup companies</a>, as a form of debt that converts to equity in a future investing round. It is a hybrid investment vehicle, which carries the (limited) protection of debt at the start, but shares in the upside as equity if the startup is successful, while avoiding the necessity of valuing the company at too early a stage.

Convertible bond open-in-new

Convertible bond