Regarding the new preferred stock issue on the NASDAQ, if and when it starts trading, which would have a price of 4.00, how does that affect the common stock?[The source for this answer comes directly or paraphrased from material and text found here. There are other places on the Web to learn about convertible preferred shares. Look here.]
The market price and behavior of convertible preferred shares (the "convertible") is determined by the conversion premium, the difference between the parity value (or parity price) and the value of the preferred shares if the shares were converted.
Let's say Provectus issues 4MM convertible preferred shares priced at $4 a share (X), raising "net" proceeds of $16MM. Why $16MM? That's the likely cost of the pivotal metastatic melanoma Phase 3 trial. Management may elect to raise a lower or higher amount for certain reasons. My analysis ignores underwriter fees, the 8% dividend, and the preferred share's warrant coverage (which is not as yet known).
The conversion ratio (Y) is the number of Provectus common shares (PVCT.OB) investors in the preferred stock offering would receive for each convertible preferred share (PVCTP) they own. The conversion ratio is set by management prior to issue with guidance from Maxim (for now, the lead and only underwriter), although the demand or lack thereof from prospective investors in the offering strongly influences the conversion ratio. The greater the demand for the offering, the stronger management's negotiating position is in lowering the ratio (i.e., less common shares per [one] preferred share). Alternatively, if the demand is weak, management may induce investors to purchase preferred shares by raising the ratio (i.e., more common shares per [one] preferred share).
In addition, the warrant coverage, which typically is a sweetener in most any equity deals, is a positive influence on the conversion ratio, since management wave the warrant in front of a prospective investor as an inducement, rather than simply solely focusing on adjusting the conversion ratio to make them happy.
Since the conversion ratio is to be set, and no fund raising has yet occurred, we do not know the ratio (for now). At Friday's closing price of $0.693, the "gross pre-deal break-even" conversion ratio -- the point or ratio where raising money by selling common stock is equivalent to raising money by selling preferred shares (again, ignoring certain items) -- is $4 ÷ $0.693, or 5.77.
If management can strike a deal whereby the conversion ratio is lower (less dilutive) than 5.77, like 3 or 4 or less, great. If not, one would question why they would raise money via the preferred stock offering, unless there are qualitative or tangibly intangible reasons to do so.
The conversion ratio shows what price Provectus common stock needs to be trading at in order for the preferred stock shareholder to want to convert his, her or its shares into common stock, which they will do if they the conversion is profitable. This price, known as the conversion price (Z), is equal to the purchase price of the preferred share divided by the conversion ratio. Thus, Z = X ÷ Y. For this analysis, let's assume the conversion ratio is 4. For Provectus, the market conversion price is $4 ÷ 4, or $1.
PVCT.OB, at the time, then needs to trade higher than $1, or Z, for investors in the preferred stock offering to gain from conversion. If preferred shares convert, and PVCT.OB drops below $1, investors suffer a capital loss. If PVCT.OB rises above $1, investors enjoy a gain.
$4, or X, also represents the parity value of the preferred shares.
The value of the converted preferred share is equal to the market price of common shares multiplied by the conversion ratio. At a closing price of $0.693, the value of the preferred shares is $0.693 × 4, or $2.77. This is well below the parity value of $4. At $0.693, the conversion premium is 31% [($4 − $2.77) ÷ $4].
The lower the premium, the more likely the convertible's market price will follow the common stock value up and down. Higher-premium convertibles act more like bonds since it's less likely that there will be a chance for a profitable conversion.
Convertibles trade like stocks when the price of common shares moves above the conversion price. If the stock price slips below the conversion price, the convertible trades just like a bond, effectively putting a price floor under the investment.