Definition of Convertible bonds

Convertible bonds are a security which is issued by a company as a means of raising money. They are essentially a combination of debt and equity. Convertibles are issued as bonds with an interest rate, principal and maturity, but the holder has the option of converting these bonds into an equivalent amount of equity in the company at a time of their choosing. If the owner chooses to convert these bonds, the debt issued on the convertible bonds is simply written off as the company is deemed to have paid them off with equity.

Convertible bonds will have a given conversion price, and this is the price at which they will be converted into equity. For example, if a bond has a par value of $1,000 and the conversion price is $20, then if the share price of the company rises above $20 the bonds will be converted to create (1000 / Share Price) new shares outstanding.

Convertible bonds must be taken into account along with possible shares created by options when calculating diluted shares outstanding for the purposes of Diluted Equity Value and Enterprise Value.