Conversion ratio definition
/What is the Conversion Ratio?
The conversion ratio is the number of common shares that the holder of a convertible security could receive by submitting the security to the issuer for conversion. The security holder can decide whether to convert the security into the issuer’s common shares; the issuer cannot force this decision.
The conversion ratio applies to convertible bonds and convertible preferred shares. The size of the ratio is stated in the agreement accompanying the convertible security at the time of its issuance.
When there is a high conversion ratio associated with a convertible security, this tends to increase the price of the security, since investors have an opportunity to convert it into more of the issuer's common stock. An issuer that does not want to pay back a bond can set a favorable conversion ratio, which encourages investors to swap their bond holdings for common stock.
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Example of the Conversion Ratio
Filigree Corporation has issued convertible bonds that allow bondholders to convert their bonds into shares of the company’s stock. Each bond has a face value of $1,000 and can be converted into 50 shares of Filigree’s common stock. This means that for every bond worth $1,000, a bondholder can convert it into 50 shares of Filigree stock. If the company’s stock price rises to $30 per share, the market value of the shares received would be $1,500 (50 shares × $30 each), providing an incentive for bondholders to convert their bonds into stock.