Empirical Study On The Effects Of The Issuance Of Convertible Bonds On The Firm Risk

Convertible bonds refer to the corporate bonds which could be changed to the stocks during a certain period and according to the stipulation. Although in the Chinese capital market, it is still comparatively new, it grows very fast and has become a necessary financing method.Firms issuing convertible debt experience poor long-run stock price and operating performance. First, we examine the possibility that this poor performance may be caused by an unexpected increase in the cost of capital. Second, we examine the change of financial leverage and the asset beta value to determine whether the change of the equity beta is caused by the leverage or the asset beta or both of them. We also provide evidence that idiosyncratic and total risk increases and that these increases are not related to corresponding changes in the issrer's industry. The results are consistent with an interpretation that idiosyncratic risk affects investment decisions following convertible debt offers, which in turn adversely impacts future operating performance.We compared our result to the research of SEO on the firm's risk done by Healy and Palepu(1990). They think as the industry factor will have an influence on the business risk, when the manager expect an increase in the systematic risk, they will finance by equity to reduce the financial leverage. By contrast, we think the specific factor of the firm is the key factor to determine the issuance of the convertible bonds. We think the convertible bonds will be issued when the idiosyncratic risk will increase.We have also done a cross-sectional regression which shows that after controlling for the reversion-to-mean phenomenon, the change in beta is significantly related to potential dilution of equity, pre-beta, relative size of issuance and increase in debt.