Mandatorily Redeemable Fixed-Term Fixed-Rate Debentures

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For alternative 8 they will raise the funds by issuing a convertible bond. The interest rate is with 3% lower then alternative 3 and 6, because there is more uncertainty for the bondholders. On the other side the bondholders will have the opportunity to convert their bonds, what is more attractive to investors, because if the stock price is rising and becoming more worth then the coupon payment of the bond, it will be attractive to swap the bond for stocks and take the premium. In case the stock prices wouldn’t rise, the ‘upside potential option’ will be useless for the bondholders, but they still have a 3% coupon payment on their bonds. So it’s a win-win situation, resulting in a lower cost of capital for BuildltYourself and a opportunity for the bondholders.

In scenario 9 BuildItYourself issues a a financial liability were they have to pay interest of 5.5 % which is higher than scenario 3 and 8 but lower as in scenario 9.

However with this contract BuildItYourself may any time after 1 January 2007 but before maturity, redeem all of the outstanding debentures at par plus interest accrued since the last interest payment date, provided that the market price of BuildItYourself ordinary shares exceeds L$26 for longer than seven consecutive working days immediately before the election is made.

Question 2

In IAS 32 is stated that a financial liability is issued when there is a contractual obligation to deliver cash to the other entity or to exchange financial assets or financial liabilities under condition,which are unfavorable for the entity.

In scenario 3 you can see that there is a contractual obligation to pay fixed payments of inte-rest (cash), therefore we would classify the way to issue the 20 million dollar in scenario 3 by issuing a financial liability, to be more precise a note payable.

Even though the company classifies the issuing of money as issuing preference shares which would have counted as a financial equity instrument. We believe that because in IAS 32 is stated that when there is a contractual obligation to pay cash to the other company you should classify it as a financial liability. In scenario 6 we see that the company has to pay a fixed amount of money of 1.15 million, which is agreed upon in the contract and there is also no transfer of control in the way of voting rights. We decide to classify the preferences shared issued in scenario 6 as a financial liability.

In scenario 8 the company decides to issue convertible debentures this means that they do have to pay a contractual cash flow of 3% and as stated in IAS 32 this means that this should be classified as a financial liability. However because there is also an option for the holder of the debenture to convert the debenture into an ordinary share of the company. Because of this option we decided to classify the convertible debentures the company issued to raise the 20 million as a combination of a financial liability and financial equity.