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Death Spiral

Death Spiral

This is a type of debt in which the lenders can be repaid with a large amount of stock.

Let’s say the investor loans the company $2000 with the proviso that he has the right to trade in his bond for $3500 in stock. If the stock was selling for $35, that would be 100 shares. Issuing this type of loan devalues the price of the stock which means the investors can trade their bond in for even more shares. If the stock price dropped to $30, the debt holders could get 116 shares of stock. Every time an investor trades in his loans for shares, the share price gets even lower and other investors can get even more shares for their $3500. Often so many additional shares are issued that the investors own more stock than the original owners and the owners lose control of their company.

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