Two Essays on Convertible Debt

Abstract

This dissertation examines two different topics related

to the issuance of a convertible debt security. The first

essay addresses the question of how managers set the

equity value in a convertible debt issue. A convertible

debt security has value derived from an equity

component and a debt component. As a result,

managers must decide how much of the convertible

debt's value will be derived from equity at issuance. I

examine three hypotheses in addressing this question.

Empirical evidence is provided supporting the

assertion that managers issue more equity-like debt

when the firm will have lower future operating

performance and a greater potential for

underinvestment. Empirical support is not found for

managers take into consideration asset substitution

concerns when setting the equity value in a convertible

debt issue.

<p>The second essay examines why are

abnormal returns negative for the equity during the

convertible debt's issuance period. This has been

documented by Dann and Mikkelson (1984),

Mikkelson and Partch (1986, 1988), and also by this

dissertation. I furnish evidence that is consistent with a

bid-ask spread bias not causing the negative equity

abnormal returns during the issuance period of a

convertible debt security. Tests are also performed

that provide results that are consistent with the issue

period returns being partially due to a resolution of

uncertainty.