Borrowing money from investors with the promise that they can later convert the loan into company shares is popular among companies. But investors are still sceptical. There is no need for that, says Verwijmeren, Professor of Corporate Finance at Erasmus School of Economics, in an article published by Het Financieele Dagblad.Â
For companies, convertible bonds are an attractive financing option because they provide cheap credit. The interest coupon rates are usually lower than the average interest rate on corporate bonds. If investors convert their loan into shares, this also saves the debtor from having to make a final payment in cash. The attraction for investors therefore lies in the prospect of a higher share price. For example, the loan to the company may be exchanged for shares if the market value of the company increases by at least 30%. But now that share prices around the world are at historically high levels and there are cries of inflated company valuations everywhere, some people are questioning these kinds of growth promises.Â
There is no need for this according to Verwijmeren. According to him, a high share price does not equal overvaluation. 'The share price of a company usually reflects what people know about it. If they have reason to believe that the price is too high, then the price would automatically fall.' If, on the other hand, investors see potential in the company, they are confident that the price can continue to rise.Â
According to Verwijmeren, the low interest rate climate also plays an important role in the popularity of convertibles. 'The capital has to go somewhere. Other bonds pay out little', and so investors are venturing into convertibles.Â
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The full article from Het Financieele Dagblad, 2 September 2021, can be downloaded above (in Dutch).Â