How does the Debt/EV ratio change after exercising convertible bonds that reduce total debt and increase common equity?

The Debt/EV (Enterprise Value) ratio measures a company's total debt relative to its total value, which is represented by the sum of its debt and equity. When convertible bonds are exercised, they convert debt into equity. This process reduces the total amount of debt while simultaneously increasing the equity portion of the company's capital structure.

As a result of exercising convertible bonds, the total debt in the equation decreases, which lowers the Debt/EV ratio. Additionally, since the equity base expands due to the conversion of the bonds, it contributes to a higher Enterprise Value calculation. With a reduction in the numerator (total debt) and an increase in the denominator (total Enterprise Value, driven by increased equity), the overall ratio decreases.

This change signals an improvement in the company's financial leverage, as it indicates that less of the company's value is being financed through debt. Thus, the correct understanding of the exercise's impact on the Debt/EV ratio leads to the conclusion that it decreases after the conversion of convertible bonds into equity.