Analysis of syndicated loans versus corporate bond
Debt represents a greater source of external financing for large firms. The introduction of syndicated loans and corporate bonds have become the main sources for large debt financing .In both markets, firms can raise large amounts of funds with medium and long-term maturities. Today, many of large firms use corporate bonds and syndicated loans extensively and, often, simultaneously to finance their investments. This paper seeks to find how financial characteristics of firms influence their debt choice between raising funds in the syndicated loan market and raising funds directly via the corporate bond market. It will also consider the determinants of financing choices including syndicated loans as a separate asset class and a direct competitor to corporate bond financing. Most studies compare the choice of public debt (i.e. corporate bonds) to bilateral bank loans, but not syndicated loans. Studies claims that corporate bonds and syndicated loans made up 94% of all public funds secured in the capital markets, while public equity issuance accounted for only 6%. Developments in the corporate bond market have attracted considerable attention, particularly in the light of the market’s spectacular development. Similarly syndicated loan market has seen considerable advancement, currently accounting for around one-third of borrowers’ total public debt and equity financing.
Syndicate Loans
Syndicated lending originated in the
Provide detailed descriptions and show all calculations used to arrive at solutions for the following questions:
As the Mexican’s government access to the international credit market started to diminish, so did the investors’ confidence in their ability to redeem their investments in government backed Tesobonos bonds. Tesobonos are bonds issued by the Bank of Mexico, marketed predominantly to foreign investors and to be repaid in US$. The dollar denominated bonds which were due to mature in 1995 were unlikely to be repaid in full ($10 billion worth of Tesobonos were to mature in the first quarter of 1995 followed by $19 billion worth before the end of 2005) (JR, 1996 & Arner, n.d).
The advantages of debt financing are that: bond investors are generally willing to accept a lower rate of return as compared to equity investors, the debt interest is tax deductible, and bond investors do not have voting rights on company issues. (Anthony 243) General Motors’ times interest earned ratio has generally stayed on course except for 1998. This shows that GM needs strong sales volumes to pay its on its liabilities due to the low profit margin. If a long-term decline in worldwide auto sales occurs, GM may have difficulty paying on its debt.
As inventories and account receivable steadily increased, the firm distressingly opted for a short-term solution. By means of long-term lending in 1994 and higher short-term credit in 1994 and 1995, SDI chose to temporarily resolve the current issues of the firm without considering the potential long-term ramifications. As illustrated in Table 1, long-term loans remained the same while short-term bank loans increased by 71% between 1994 and 1995; a drastic change within a short span of time (Appendix A). Similarly, as depicted in Table 2, the interest on the firm’s short-term loans rose from 1994 to 1995
With the hunger for yields driving down rates across the fixed income market, an increasing number of articles are coming out warning of lower underwriting standards and the danger in covenant-lite (cov-lite) investments. Covenants on high yield bonds and bank loans are loosening; however we are not observing the excesses of a late-cycle boom. It is easy to point to a few statistics and draw startling conclusions about the below investment grade market. While cov-lite loan issuance is increasing, these securities still provide protection to secured lenders. High Yield bond covenants have also been weakening. Issues are coming to market with investment grade style covenant packages that do not provide strong liens and change of control protections. While loan and bond covenants are getting leaner, credit fundamentals still remain robust.
Even further, allowing taxation treatments opposing equity and in favor of long-term debt steers considerable alterations in methods for financing assignments. Ideally, companies need to finance each business project per its pecuniary factors, rather than its tax factors. Yet, the disproportionate variance between effective tax percentages encourages companies to fund company projects using debt in lieu equity where possible.
Prior to the crisis, the market comprised mainly bonds issued by the Australian banks and asset‑backed securities. Together these accounted for just over half of the outstanding stock of Australian bonds in June 2007. Bonds issued by the public sector were a relatively small share of the market, at 16 per cent of the total outstanding
With the three debt instruments in the case, hundreds of millions of dollars would become readily available to the company and be at their disposal. Each of the financing opportunities provides their own money in different forms. Great companies need these different financing ideas to
WorldCom has the option to extend its bank loan credit facility or to issue this large $6 billion in debt. It plans to use the rolling commercial paper program to pay British Telecommunications for MCI’s share purchases, and then use bond proceeds to pay off the commercial paper program. This signals that WorldCom does not need the money immediately for a single corporate purpose, and does not need the money immediately. Therefore, perhaps it makes sense for WorldCom to issue the bonds in smaller installments rather than flooding the market with $6 billion in debt all at once. The first reason for this is that, if an underwriter must first purchase the bonds before selling to investors, an underwriter may demand greater spread in order to justify taking down an entire $6 billion in debt using the bank’s capital assets. The second
Firstly, interest on debt is tax deductible, therefore, debt is the least costly source of long-term financing as this is a tax saving for the frim. Thus, creditors or bondholders require a lower return on debt as it is considered a reflectively less risky investment. Secondly, the capital structure of a firm is flexible due to debt financing. Ultimately, bondholders are creditors and they do not have voting rights, hence, they are not involved in decision making and business operations. Additionally, the major advantages of equity finance are as follows. Firstly, the capital provided is to finance the businesses short term needs and future projects. Secondly, the business will not have to pay any additional bank expenses such as interest on loans, thus allowing the business to use the money for business activities. Lastly, investors anticipate that the business will develop thus they help in exploring and executing thoughts. Certain sources, for example, venture capitalists and business angel can bring significant skills, abilities, contacts and experience to businesses and they can also provide expertise advice to businesses (Hofstrand,
Another measure of a company’s ability to pay back loans, this time over a long period, measures solvency. Coca-Cola’s debt to total assets ratio is 35% in 2004 and 33% in 2005 compared to PepsiCo’s less attractive ratio of 52% in 2004 to 55% in 2005. Coca-Cola’s debts represent a healthy percentage of assets and in this case the lower the number the better. Coca-Cola’s debt to total assets ratio decreased by 2% from 2004 to 2005 while PepsiCo’s ratio increased by 3%. Were a potential lender or investor to look at these numbers alone they would prefer the performance of Coca-Cola over PepsiCo but there are still many calculations to be made and factors to consider.
Though bonds provide such safety, their yields are very low and have little potential for capital appreciation in the long-run for both the issuer and receiver. Besides, the low interest-rate of bonds makes the return on holding cash virtually non-existent (Voya & Scotia, 2009). Convertible bonds, however, offer a middle ground between the safety of bonds and the upside potential, and risk, of stocks. For this firm seeking income, higher-yielding convertibles bonds are the right options they can explore. This allows for the downside protection of a
U.S. Semiconductor, a semiconductor manufacturer decided to expand their business to UK market in 1980. Their new business plan needed specialized technical support facility in UK. In order to minimize the equity investment, they decided to fund their assets mostly with debt. As Semiconductor owned subsidiaries, which spread all over the world, they face great exchange risk. Besides, instead of building a production department in UK, Semiconductor kept producing their products domestically and delivered them to UK by plane. British firms also confronted exchange risk due to the difference between import costs and sales revenues. This case mainly involves the discussion on the method of debt funding.
Nevertheless, firms have used leverage even before corporate taxes have been introduced (Maris and Elayan, 1990). This implies the existence of some market imperfections, which benefit the use of debt financing, thus enable a trade-off of the cost and benefits of debt resulting in an optimal capital structure, where marginal cost equal marginal benefits.
If external financing is required, the “safest” securities, namely debt, are issued first. Although investors fear mispricing of both debt and equity, the fear is much greater for equity. Corporate debt still relatively little risk compared to equity because, if financial distress is avoided, investors receive a fixed return.. Thus, the pecking order theory implies that, if outside financing required, debt should be issued before equity. Only when the firm’s debt capacity is reached should the firm consider equity.