In the second quarter of 2013, Tesla Motors, Inc. (symbol: TSLA) raised $ 600 million in debt markets by issuing senior convertible bonds. Tesla used a large portion of this capital to repay a loan provided by the Department of Energy in 2013. The prospectus supplement that contains details about the convertible bond issuance can be found using the following link from the SEC website:
Infro from website
Holders may convert their notes at their option at any time prior to the close of business on the business day immediately preceding March 1, 2018 only under the following circumstances: (1) during any calendar quarter commencing after the calendar quarter ending on September 30, 2013 (and only during such calendar quarter), if the last reported sale price of the common stock for at least 20 trading days (whether or not consecutive) during a period of 30 consecutive trading days ending on the last trading day of the immediately preceding calendar quarter is greater than or equal to 130% of the conversion price on each applicable trading day; (2) during the five business day period after any five consecutive trading day period (the “measurement period”) in which the trading price (as defined below) per $1,000 principal amount of notes for each trading day of the measurement period was less than 98% of the product of the last reported sale price of our common stock and the conversion rate on each such trading day; or (3) upon the occurrence of specified corporate events. On or after March 1, 2018 until the close of business on the second scheduled trading day immediately preceding the maturity date, holders may convert their notes at any time. Upon conversion, we will deliver cash and, if applicable, shares of our common stock (subject to our right to deliver cash in lieu of such shares of our common stock), as described in this prospectus supplement.
The conversion rate will initially be 8.0306 shares of common stock per $1,000 principal amount of notes (equivalent to an initial conversion price of approximately $124.52 per share of common stock). The conversion rate will be subject to adjustment in some events but will not be adjusted for any accrued and unpaid interest. In addition, following certain corporate events that occur prior to the maturity date, we will increase the conversion rate for a holder who elects to convert its notes in connection with such a corporate event in certain circumstances.
A) The prospectus supplement states that conversion is only allowed under certain circumstances. These circumstances are outlined in the second paragraph of the prospectus ( the paragraph begins with “Holders may convert their notes…”). In your own words, summarize these circumstances and discuss why you think these rules are in place.
b) Explain why a company like Tesla would be interested in issuing convertible bonds as opposed to straight bonds.
c) Each convertible note is priced at $1, 000, has a face value of $1,000 and a 5 - year maturity, and pays a coupon of 0.75 percent every half - year. Assume that if Tesla were to issue straight debt, it would have an expected return of 2 percent per half - year. What is the value of the conversion option for each convertible bond?
Suppose that it is June 1, 2017 and you own one Tesla convertible bond. This convertible bond was originally issued on June 1, 2013 and has a maturity date of June 1, 2018. You are conside ring two choices: convert the bond into shares right now (the conversion ratio can be found on the first page of the convertible bond prospectus) or never convert the bond and receive the remaining two interest payments and the face value payment at maturi ty. Assume that there are no rules in place to prevent you from converting the bond. Assume that t he Tesla closing stock price on June 1, 2017 is $340.00 per share .
d) Explain whether or not you would convert the bond. You will need to compare the value of the shares you would receive if you did convert to the present value of the remaining bond payments you would receive if you did not convert (from the point of view of June 1, 2017).