Conver tible bonds are bonds issued by companies that have an embedded option that entitles the holder to exchange the bond for a predefined amount of equity in the company at a specified price. In some countries conver tible bonds are referred to as debentures. The price of such a conver tible bond is given by the following:
Conver tible bond price = Straight bond price + Value of stock call option
The conversion terms for individual issues vary widely. There is nothing to stop a company issuing a bond that contains an embedded option that gives the issuer the right to force conversion. In this case the holder of the bond has effectively sold a put option on the bond:
Conver tible bond price = Straight bond price − Value of bond put option
Most equity analysts dislike having to incor porate the effects of conver tible instruments because they complicate calculations of future fully diluted earnings per share (EPS) and hence valuations. Institutional investors are likely to be able to take account of the potential dilution from the issue of new shares; this is not, however, true for most retail investors.