Reporting the Relative Equity Portion of Convertible Debt Issues

Dudley, Lola Woodard; Schadler, Frederick P.

doi:10.1177/0148558x9400900314

Cited by 3 publications

(4 citation statements)

References 13 publications

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“…This separate presentation for compound instruments in accordance with IAS 32 has, however, been controversial. As Dudley and Schadler (1994) put it, the debt and equity components of convertible securities are not independently marketable. They cannot be suitably accounted for strictly as debt, since most issues of convertible debt are offered as deferred issues of equity.…”

Section: Economic Consequences Of Reporting Convertible Debt and Debt...mentioning

confidence: 99%

Financial reporting, debt covenants and convertible debts

Lau

2022

ARA

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PurposeThis study proposes an alternative perspective on why firms issue convertible debt, to supplement the largely theoretical motives identified in the existing literature. It hypothesises that the separate presentation of convertible debt into its equity and liability components has economic consequences and advantage that explain why firms issue convertible over non-convertible debt, consistent with the debt covenant hypothesis. The purpose of this paper is to address the proposed perspective and hypothesis.Design/methodology/approachData on convertible debt, gearing (debt assets and debt equity), debt issuance and retirement, etc. were collected for a sample of 1,104 firms listed on Bursa Malaysia. Regression analyses were then used to assess the hypotheses on how gearing affects the use of convertible debt and the impacts of its use on changes in gearing over the financing cycle.FindingsFirms with higher gearing, and possibly those close to violating debt covenants, are more likely to issue convertible than non-convertible debt. In addition, the use of convertible rather than non-convertible debt both reduces the increase in gearing when debts are issued and leads to a larger decrease in gearing during debt retirements via conversion.Practical implicationsThese effects on gearing provide firms with additional financial flexibility and enhance firms' capacity to borrow more from other sources, a lower-debt advantage.Originality/valueThis study demonstrates the informational role of financial reporting in addressing the stewardship emphasis, as part of the decision usefulness objective of financial reporting in the Conceptual Framework for Financial Reporting.

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Section: Economic Consequences Of Reporting Convertible Debt and Debt...mentioning

confidence: 99%

Financial reporting, debt covenants and convertible debts

Lau

2022

ARA

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“…However, studies in the field of accounting have asserted that convertible debt is not "entirely debt" and advocated changing U.S. accounting rules to reflect the hybrid nature of convertible debt (Dudley and Schadler, 1994;King et al, 1990;King and Ortegren, 1988;Billingsley et al, 1986;Brennan and Schwartz, 1980). The variance between current accounting rules and the research findings of the above studies raises the issue of whether the market perceives convertible debt differently than straight debt.…”

Section: Introductionmentioning

confidence: 99%

“…Several studies have advocated that convertible debt consists of separate debt and equity components. Several studies applied option pricing models to demonstrate that separate debt and equity components could be rationally measured for convertible instruments (Dudley and Schadler, 1994;King et al, 1990;King and Ortegren, 1988;Billingsley et al, 1986;Brennan and Schwartz, 1980). The American Accounting Association's Financial Accounting Standards Committee, whose charge is to comment to standard setters on financial reporting issues, favors the separate debt and equity components approach over APBO 14 (AAA, 1993).…”

Section: Introductionmentioning

confidence: 99%

“…A potential impact between the entirely debt approach compared to the separate components approach is on the issuers' debt/equity ratio, a measure of firm risk and used in contractual debt covenants. Academic studies testing the separate components approach have found average equity components in excess of 30% of the proceeds at date of issuance (Dudley and Schadler, 1994;Billingsley et al, 1986). Firms with convertible debt as a significant portion of their capital structure would obviously experience an improvement in their debt/equity ratio if 30% of convertible debt proceeds, or even a smaller equity component percentage, were allocated to equity.…”

Section: Introductionmentioning

confidence: 99%

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The Market Perception of Convertible Debt Versus Straight Debt: some Empirical Evidence from U.S. Firms and Non‐U.S. Firms Listed in the U.S.

Schneider

McCarthy

Wertheim

1999

Financ Manag Account

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Accounting for convertible debt has long been a source of controversy in the accounting profession in the U.S. Current U.S. accounting rules require classifying convertible debt at date of issuance as “entirely debt” until conversion, despite numerous studies that assert that convertible debt is not “entirely debt”, but is a blend of debt and equity. Convertible debt has taken on international interest because of the issuance of International Accounting Standard (IAS) 32, Financial Instruments; Disclosure and Presentation, which prescribes reporting separate debt and equity components for convertible debt. This study examines convertible debt issued by U.S. firms and non‐U.S. firms listed in the U.S. using a levels approach. Specifically, convertible debt is compared to straight debt and contrary to ex ante expectation, convertible debt was not found to be perceived as being significantly different than straight debt for U.S. firms for any years and is statistically different in only two of the six years tested for non‐U.S. firms. The validity of this study's findings is underscored by its research design, which compares convertible debt and straight debt issued by the same firms. The findings suggest that investors regard reported amounts of convertible debt similar to straight debt in their assessment of firm value.

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