DEBT FOR EQUITY SWAP :

These instruments give an offer to the debt holders to exchange the debt for equity shares of the company.

The issuers offering debt for equity swaps are interested in increasing equity capital by improving their debtequity ratios and enhancing their debt issuing capacity. They reduce their interest burden and replace it with dividend burden which is payable at the discretion of the issuer. However, the issuer faces the risk of dilution of earnings per share by a sharp rise in the equity. In addition, dividends are not tax deductible.

From the investors’ point of view, there is potential gain from rise in the value of the equity shares. The potential rise in price of equity shares may or may not materialize.

Variations of this instrument are mortgage backed securities that split the monthly payment from underlying mortgages into two parts -each receiving a specified portion of the principal payments and a different specified portion of the interest payments.