Please note: if you represent a company and are looking for information on convertible bonds, you can also visit our convertible bond page aimed for companies.

 

What is a convertible bond?

Convertible bonds are hybrid securities that combine features of a regular bond (such as interest payments) with the option of converting the bond into shares of the issuing company at a later date.

When issued, convertible bonds act as regular bonds. The bond's terms, however, detail how the bonds can be converted into shares of the issuing company. These terms will include the number of shares the convertible bond can be converted into or the discount for the share price given in the conversion, situations when the conversion can take place, if there are events that trigger an automated conversion process, etc. 

Invesdor's convertible bond products: Classic and Bridge

Invesdor offers two types of convertible bond products that companies can utilize in their funding rounds: the Classic Convertible Bond for mature companies and the Bridge Convertible Bond for growth companies. Some general information for investors about these products is listed below. Please note: details and features of an offered convertible bond can differ from those presented here. Always familiarize yourself carefully with the relevant investment materials before making an investment decision.

Classic Convertible Bond

  • The issuing company has to be a mature, established business
  • Tenure of the bond is 2-5 years
  • The bondholder can convert the bonds into the issuing company's shares during any qualified share round within the bond's lifetime
  • The bond is automatically converted if the issuing company merges with or is acquired by another company, lists on an exchange, goes bankrupt, enters into liquidation, or if any shareholder obtains a right to redeem all of the shares of the company 
  • If the bondholder does not convert the bonds during any qualified share round and no automatic conversion scenario takes place, the bondholder can hold onto the bond through its lifetime and receive the principal payment upon the bond's maturity

Bridge Convertible Bond

  • Issuing company should be a growth company with a strong growth prospect, looking for external funding
  • Tenure of the bond is 1-2 years
  • The bond is automatically converted during the next qualified share round of the issuing company, on the bond's maturity, or if the company merges with or is acquired by another company, lists on an exchange, goes bankrupt, enters into liquidation, or if any shareholder obtains a right to redeem all of the shares of the company
  • Bondholder does not have the option to hold onto the bond through its lifetime and receive the principal payment upon the bond's maturity; automatic conversion happens in all scenarios

How does it work in practice?

The following descriptions concern Invesdor's convertible bond products, the Classic Convertible Bond and the Bridge Convertible Bond. While many of the features described may apply also to other types of convertible bonds, this should not be taken as a general or universal description of convertible bonds. Always familiarize yourself carefully with a specific investment product and its qualities and terms before making an investment decision.

Issuing, investing in and converting convertible bonds

Convertible bonds are issued by the target company. At this time, investors can acquire and receive convertible bonds, becoming bondholders. These bonds can then work in a few different ways.

In the beginning, the convertible bonds operate much like traditional bonds. They have a tenure and an interest rate according to which the issuing company makes interest payments to bondholders. Invesdor’s convertible bonds differ in tenure length: the Classic Convertible’s tenure can be 2 to 5 years, whereas the Bridge Convertible's tenure is 1 to 2 years.

As the bonds are convertible, they can be converted into shares during the bond’s lifetime. This can happen in several ways, explained below.

The Bridge Convertible: conversion scenarios

The Bridge Convertible is always converted automatically, also known as required conversion. Required conversion for the Bridge Convertible Bond is triggered if the issuing company:
  • holds its next public or private share offering (also referred to as the next qualified share round),
  • lists on an exchange (incl. technical listing with no share issue),
  • merges with or is acquired by another company,
  • goes bankrupt,
  • enters into liquidation, or
  • if any shareholder obtains a right to redeem all the shares of the issuing company.

If none of the above scenarios trigger required conversion during the bond's lifetime, the bond is automatically converted on its maturity date.

The Bridge Convertible Bond cannot be converted outside the events mentioned above. In all the Bridge Convertible's conversion scenarios, an individual investor's bonds are converted in full: no partial conversion is possible. Once the bond is converted, it has run its course for the investor: they are no longer a bondholder, but a shareholder in the issuing company.

The Classic Convertible: conversion scenarios

The Classic Convertible can be converted during the bond's lifetime by the bondholder:

  • during any public or private share offering of the issuing company (i.e. the qualified share rounds).

Unlike with the Bridge Convertible, however, the bondholder is not required to convert during the qualified share rounds. The Classic Convertible is automatically converted if the issuing company:

  • lists on an exchange (incl. technical listing with no share issue),
  • merges with or is acquired by another company,
  • goes bankrupt,
  • enters into liquidation, or
  • if any shareholder obtains a right to redeem all the shares of the issuing company.

The Classic Convertible Bond cannot be converted outside the events mentioned above. In all the conversion scenarios, an individual investor's bonds are converted in full: no partial conversion is possible. If the bonds are converted, the bond has run its course for the investor: they are no longer a bondholder but a shareholder in the company.

If the bondholder chooses not to convert the bond during any qualified share round and no required conversion scenario takes place, the bondholder continues to receive interest payments. If the bond has not been converted by its maturity date, the issuing company pays the bondholder any unpaid accrued interest and the original investment, also known as the principal payment. The bond has matured and run its course for the investor. They are no longer a bondholder and do not own shares in the issuing company (unless they own such shares some other way).

Conversion mechanisms

The Classic and Bridge Convertible can be converted into shares by two mechanisms, explained below. Either conversion mechanism is possible with either of the convertible bonds: the issuing company sets in the bond's terms which mechanism will be applied. When an individual investor's bonds are converted, they are always converted in full: partial conversion is not possible with either the Classic or the Bridge Convertible. 

Mechanism I: Discount on the share price

The issuing company can give a discount on the share price that the bondholder will receive when their bonds are converted. For example: the bond’s terms say that at conversion the bondholder receives a 25% discount on the issuing company's share price. The bondholder has 10 bonds as the company launches a qualified share round where the share price is set at €40.

The bonds are converted, either by choice of the bondholder (Classic Convertible) or through the required conversion feature (Classic Convertible and Bridge Convertible). The bondholder receives a 25% discount on the share price, i.e. €40 – 25% = €30. The bondholder originally paid €96 for each bond, so a total of 10 x €96 = €960. This is the sum that is now converted into shares at the discounted price. This means the bondholder will receive €960 / €30 = 32 shares. Investors not eligible for this discount would pay 32 x €40 = €1280 for the same number of shares. The bond has run its course and the bondholder is now a shareholder in the issuing company.

The bond's terms will include a share price that is used to calculate the discounted share price for any potential scenario where there is no qualified share round to determine the share price (e.g. if a Bridge Convertible with a discounted share price as its conversion mechanism reaches maturity with no qualified share round taking place during the bond's lifetime).

Mechanism II: Pre-determined number of shares

Another conversion mechanism the issuing company can apply is that the bondholder receives a pre-determined number of shares for each bond when they are converted. For example: the bond’s terms say that each bond is converted into 8 shares and the bondholder has 15 bonds.

The bonds are converted, either by choice of the bondholder or through a required conversion. The bondholder receives 15 x 8 = 120 shares. The conversion is complete and the bond has run its course for the investor: they are no longer a bondholder, but a shareholder of the issuing company.

Pre-payment option

The issuing company also has the option to pay back the convertible bond in the middle of the bond's tenure. In this case, the issuing company pays investors any accrued unpaid interest, the principal payment, and a penalty payment determined in the bond's terms. Pre-payment is possible both with the Classic and the Bridge Convertible.

If the bond gets pre-paid by the company, it has run its course. The investors cease to be bondholders, but also do not receive shares as the bond was not converted but paid back. 

Risks related to convertible bonds

It is also possible that the company that issued the convertible bond becomes insolvent, i.e. unable to meet its financial obligations, or goes bankrupt during the course of the bond’s lifetime. In such cases, the investor has the risk of losing some or all of their invested capital.

For example, the issuing company might be able to make the interest payments for a time, but then become insolvent and go bankrupt. The bondholders would have their bonds automatically converted into shares, as explained above. As the company would in this scenario be bankrupt, its shares would, however, be worthless. The former bondholders (now shareholders) could still keep any interest payments they received before but could lose any unpaid accrued interest and their original investment sum.

The convertible bonds do not have any collateral. The bonds are illiquid because they do not have any secondary market.

The risks described above apply to both the Classic Convertible and the Bridge Convertible.

 

In summary, here are two visualizations for how our bond products operate and what are some of the potential results.

Classic Convertible Bond

Classic Convertible - flowchart visualization

 

Bridge Convertible Bond

Bridge Convertible - flowchart visualization

 

General and company-specific risks should be included in all investment materials. Always familiarize yourself carefully with the relevant investment materials before making an investment decision. 

Want to hear more?

If you have questions, we are happy to help: contact us to leave a question or feedback.

Get in touch