Question

Quantum Inc. has warrants outstanding that allow the holder to purchase 1.5 shares of stock per warrant at $30 per share (exercise price). Thus, each individual share can be purchased at $30 with the warrant. The common stock is currently selling for $36. The warrant is selling for $12.

Required:
a. What is the intrinsic (minimum) value of this warrant?
b. What is the speculative premium on this warrant?
c. What should happen to the speculative premium as the expiration date approaches?

Answer 1

The intrinsic value of the warrant is $9, and the speculative premium is $3. The speculative premium tends to decrease as the expiration date of the warrant approaches.

Step-by-step explanation:

To determine the intrinsic value of the warrant, we need to calculate the difference between the current stock price and the exercise price of the warrant, then adjust for the number of shares the warrant lets you purchase. The common stock is currently selling for $36, while the exercise price is $30. Therefore, for each share that can be purchased with the warrant, the intrinsic value is $36 - $30 = $6. Since the warrant allows the purchase of 1.5 shares, the intrinsic value of the warrant is $6 × 1.5 = $9.

The speculative premium is the amount by which the price of the warrant exceeds its intrinsic value. Since the warrant is selling for $12 and we calculated the intrinsic value to be $9, the speculative premium is $12 - $9 = $3.

As the expiration date of the warrant approaches, the speculative premium should generally decrease. This is because there's less time for the stock to increase in value, which reduces the chance of the warrant ending up deep in-the-money.

Answer 2

A. $9.00

B. $3.00

C. Decrease

Step-by-step explanation:

a. Calculation to determine the intrinsic (minimum) value of this warrant

Using this formula

I = (M – E) × N

Where,

I represent Intrinsic value of a warrant

M represent Market value of common stock

E represent Exercise price of a warrant

N represent Number of shares each warrant entitles theholder to purchase

Let plug in the formula

I=($36 – $30) *1.5

I=$6*1.5

I = $9.00

Therefore the intrinsic (minimum) value of this warrant is $9.00

b. Calculation to determine the speculative premium on this warrant

Using this formula

S = W – I

Where,

S representSpeculative premium

W represent Warrant price

I represent Intrinsic value.

Let plug in the formula

S=$12-[($36 – $30) *1.5]

S=$12 – $9

S = $3.00

Therefore the speculative premium on this warrant is $3.00

c.What should happen to the SPECULATIVE PREMIUM as the expiration date approaches is for it to DECREASE and thereby approach $0.