Detachable Vs. Nondetachable Warrants

by Cam Merritt

Companies looking to borrow money by selling bonds often sweeten the deal for investors by including "warrants" with their bonds. A warrant gives you the opportunity to purchase company stock at a price that may turn out to be a bargain. A detachable warrant allows you to sell that opportunity to someone else; a nondetachable warrant prevents such a sale.

Warrants

In finance, a warrant gives you the right to buy securities, usually shares of stock, at a specific price within a certain time period. However, you're under no obligation to actually buy the shares. In practice, a warrant operates similarly to a call option, with a couple key differences. Call options are sold by broker-dealers and investors; when you exercise a call option, you're buying shares out on the market. Warrants, on the other hand, are issued by the companies themselves; when you exercise a warrant, you're buying shares directly from the company. Warrants also have longer time period during which you can make the purchase, often five years or more, as opposed to a few months with a typical call option.

Attachment

Warrants are commonly bundled with, or "attached" to, other securities, usually bonds. Companies offer them as an incentive to get investors to buy the securities, which, in the case of bonds, means loaning the company money. Attaching a warrant might persuade an investor to accept a lower interest rate on the bond -- or to buy the bond at all. For example, a company may sell $1,000 bonds that each include a warrant to buy 50 shares of stock at $10 apiece within six years. The share price stated in the warrant, called the "strike price," is typically higher than the current market price of the stock. If the share price rises above the strike price within the six years, you can buy the shares, then immediately sell them for a profit -- or hold them and hope for a further increase. If the share price never exceeds the strike price, you can simply let the warrant expire.

Detachable Warrants

In many cases, the owner of a bond with attached warrants can sell those warrants separately from the bond. These are detachable warrants. Say you have a $1,000 bond with a detachable warrant to buy 50 shares at $10 apiece in the next six years. If you don't think the share price will ever reach that level, or if you'd prefer not to wait to realize some profit on the warrant, you could sell the warrant to someone else but hold onto the bond. You could also do the opposite: sell the bond to someone else while holding onto the warrant for yourself.

Nondetachable Warrants

A nondetachable warrant cannot be separated from the security with which it's bundled. The warrant goes with the bond. As long as you own the bond, you're the only one who can exercise the warrant. If and when you sell the bond, the warrant -- assuming you haven't exercised it already -- transfers to the buyer.

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