To: MoGen, Inc. Senior Management
From: Mr. Dar Maanavi, Managing Director, Equity-Linked Capital Markets Group of Merrill Lynch

Re: $5 Billon Convertible Debt Offering Proposal

Dear Gentlemen:

We are pleased to present to you the salient features of our proposed $5B convertible debt offering for your careful review and approval. We deemed it appropriate to walk you through the analytical process in coming up with the right mix of conversion premium and coupon rate. We initially consider a conversion premium of 25% and determine its corresponding coupon rate. We then explore the appropriateness of such a premium and explore other conversion premium-coupon rate combinations and determine which combination would be optimal for both the …show more content…

Again, by using the Black-Scholes model, the option premium was calculated and these are shown in Exhibits E2-A to E2-D. The call option value is computed by multiplying the conversion ratio by the call premium. For example, if the conversion premium is 25%, the conversion price is 1.25 times the January 10, 2006 closing stock price of $77.98. The conversion ratio, denoted as Cr, is obtained by dividing the bond’s face value of $1000 by the conversion price, that is, Cr = 1000/(77.98*1.25) = 10.26. This is then multiplied to the 17.26 call premium to obtain the call value of $177.07.

The coupon rate at each assumed conversion premium was obtained by setting the following to be equal: the difference between the bond face value and the call value, and the net present value of the bond using 5.75%, or the bond yield of a similarly-rated company as the discount rate.

What is the appropriate conversion premium for the issuance?

The table below shows a summary of the coupon rate at each conversion premium. We note that there is trade-off between conversion premium and coupon rate. As the conversion premium becomes higher, the call option becomes less valuable as it is less likely to be exercised, and investors will likely demand higher coupon rates.

Table 1. Conversion Premium and Coupon Rate Scenarios
Conversion Premium 25% 30% 35%