Accounting For Proceeds From The Issuance Of Convertible Bonds And Of Debt Instruments With Separate Warrants

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1.The differences in accounting for proceeds from the issuance of convertible bonds and of debt instruments with separate warrants to purchase common stock.

Convertible debts are long-term securities which can be converted into issuer 's stock options at a specified conversion ratio, if the debt-holder wants to exercise them. Convertibles include bonds and preferred shares, but most commonly take the form of bonds. Convertible bonds are a type of compound financial instrument with characteristics of both liability and equity.

Convertibles are appealing to investors who are looking for an investment with greater growth potential than that offered by a traditional bond. By purchasing a convertible bond, the investor can still receive
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Convertible debt and debt with stock warrants differ in that: (1) if the market price of the stock increases sufficiently, the issuer can force conversion of convertible debt into common stock by calling the issue for redemption, but the issuer cannot force exercise of the warrants; (2) convertible debt may be essentially debt, whereas debt with stock warrants is debt with the additional right to acquire equity; and (3) the conversion option and the convertible debt are inseparable and, in the absence of separate transferability, do not have separate values established in the market; whereas debt with detachable stock warrants can be separated into debt and the right to purchase stock, each having separate values in the market.

When the debt instrument and the option to acquire common stock are inseparable, as in the case of convertible bonds, the entire proceeds of the bond issue are allocated to the debt and the related premium or discount accounts.

When the debt and the warrants are separable, the proceeds of their sale are allocated between them. The basis of allocation is their relative fair values. As a practical matter, these relative values are usually determined by reference to the price in the open market. The portion of the proceeds assigned to the warrants are accounted for as paid-in capital. The result may be that the debt is issued at a reduced premium or at a

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