CFA Practice Question

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CFA Practice Question

A company is considering issuing either a straight coupon bond or a coupon bond with warrants attached. The proceeds from either issue would be the same. If the firm issues the bond with warrants attached instead of a straight coupon bond, which of the following ratios will most likely be lower for the bond with warrants?
A. Return on assets
B. Debt to equity ratio
C. Interest coverage ratio
Explanation: The portion of the proceeds attributable to the warrants would be classified as equity; thus the portion classified as a liability would be smaller (lower). Therefore the debt-to-equity ratio will be lower for the bonds with warrants.

EBIT would be the same regardless of financing method; the coupon on the bond with warrants attached would be lower if the two issues provided the same proceeds, so the interest coverage would be higher for a bond with warrants attached. Since interest expense would be lower for a bond with warrants attached, Net Income would be higher and ROA would be higher.

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