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A Prediction Model for Convertible Debentures

1971; Wiley; Volume: 9; Issue: 1 Linguagem: Inglês

10.2307/2490205

1475-679X

Werner G. Frank, Jerry J. Weygandt,

Financial Reporting and Valuation Research

The Accounting Principles Board (APB) in its Opinions Number 9 and 151 expressed concern that in the absence of special treatment for certain securities, among them convertible debentures, investors might be misled in evaluating the earnings per share of firms whose capital structures, i.e., those structures including potentially dilutive convertible securities, options, warrants or other rights that upon conversion or exercise could in the aggregate dilute earnings per common share.2 Accordingly, the APB recommended that certain convertible securities should be classified as the equivalent of common stock for the purpose of calculating a corporation's primary earnings per share. In Opinion No. 15, the APB specified that the determination of which convertible debentures should be so classified is to be made by comparing the security's cash yield with the prime bank rate.3 In this paper we employ a different criterion for classifying at year-end convertible debentures as either debt or as residual securities. Specifically, we propose that the classification be based on whether conversion is predicted during the subsequent year. To this end, a set of variables will be examined to determine the criterion or set of criteria which best discriminates between converted and nonconverted groups. The statistical technique used for this purpose was multiple discriminant analysis (MDA).