Financial Accounting and Reporting-CPA Practice Exam

What distinguishes nondetachable warrants?

1. They allow bond conversion without conditions

2. The convertible bond must be converted into capital stock

3. They can be retained as a detachable equity option

4. They are always sold at a premium

The correct answer is: The convertible bond must be converted into capital stock

Nondetachable warrants are characterized by their requirement that the associated convertible bond must be converted into capital stock. This feature emphasizes that when bondholders exercise their warrants, they are obliged to convert their bonds into a predetermined amount of equity instead of simply being able to exchange the warrants for shares. This contrasts with detachable warrants, which can often be separated and sold independently or exercised without needing to convert the bond. The nature of nondetachable warrants connects specifically to the way they integrate with the bond, reiterating the obligation of conversion to capital stock as part of the warrant's design. The other options do not accurately reflect the definition and characteristics of nondetachable warrants. For instance, the possibility of conversion without conditions or retaining warrants as standalone equity instruments does not apply to nondetachable warrants, as they are intrinsically tied to the bond they accompany. Additionally, while warrants can sometimes be sold at a premium, this is not a defining feature of nondetachable warrants.