Adjustment of conversion ratios for convertible bonds and share warrants during financial transactions

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During financial operations such as mergers, demergers, or partial asset transfers, the conversion ratio of convertible bonds (CB) and share warrants (SW) must be adjusted either upward or downward.

This adjustment is a legal and contractual obligation (typically stipulated in the issuance agreement of the CB or SW) aimed at modifying the conversion or exercise terms if certain predefined events occur. Its primary purpose is to protect either party (issuer or investor) against changes in the economic situation of the issuing company that existed at the time of issuance.

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‍1. Example of an upward adjustment of the conversion ratio for a convertible bond

• Before the merger:
  A holder of a CB with a nominal value of €50.00 would receive one share of company B upon conversion.
• Merger terms:
  One share of company B is exchanged for 0.5 share of company A.
  The CB now converts into shares of the absorbing company A.
• After adjustment:
  Before the merger, the CB holder could obtain one share of company B worth €50. After the merger, to receive an asset of equivalent value, the conversion price must be adjusted upward because each share of company A is worth twice as much as a share of company B in this example:
  €50 / 0.5 = €100, so the new conversion ratio will be 2 CBs for 1 share.

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2. Example of a downward adjustment of the exercice ratio for a share warrant

• Absorbed  company (issuer of the SW): Company B
• Absorbing company: Company A

Example: 1 SW from company B entitles the holder to subscribe to 1 share of B at a price of €20.00. Company A absorbs company B with an exchange ratio of 1 share of B equal to 0.4 share of A plus €5 in cash.

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‍Adjustment calculation:

• Assume that company A’s share was trading at €60 before the merger.
• Value of one share of B = (0.4 × €60) + €5 = €24 + €5 = €29
• Assume that company B's share was trading at €25 before the merger.
• Post-merger adjustment ratio = €29 / €25 = 1.16

Adjustment of the SW:

New exercice price = old exercice price /adjustment ratio -> €20 / 1.16 = €17.24

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‍Role of the Issuer and the AMF

• The issuer is required to inform holders and publish a notice detailing the adjustment terms.
• In France, the Autorité des Marchés Financiers (AMF) ensures compliance with these rules to protect investors.

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‍Conclusion

Adjusting the conversion and exercise ratios of CBs and SWs during mergers, demergers, or asset contributions is a key legal and financial protection mechanism. It ensures fairness among all parties and maintains the attractiveness of these complex financial instruments. While calculation methods may vary in detail, they always follow the logic of economic neutrality.

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