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29 Cards in this Set
- Front
- Back
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Corporate bonds are referred to Senior Securities because:
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1) Bond holder's are creditors
2) Interest on bonds must be paid before preferred or common dividends. 3) Less riskier than stock due to prior claim on assets in a liquidation |
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Trust Indenture
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-Contract between the ISSUER & TRUSTEE (Bank)
-Details the specific provisions of the bond issue -Issuer files it w/SEC 1) Closed-End Trust Indenture 2) Open-End Trust Indentures |
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Closed-End Trust Indentures
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-Does NOT allow for an additional bond issue to be secured by the same assets which secure the original issue.
-Provides highest protection for bond holders from dilution of their bond's security. |
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Open-End Trust Indentures
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-Permits the issuance of additional bonds backed by the same assets which secure the original issue.
-Original bondholder's protection may be diluted -Earning's Test or Additional Bonds Test = Issuer may be required to meet specific earnings requirements before issuing additional bonds |
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Secured Debt = Mortgage Bonds, Equipment Trust Certificates, & Collateral Trust Bonds because...
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-A specific asset is pledged to back the bond if company defaults.
-If defalut, the trustee will take possession of the asset & then sell it to pay off the bond holders. -Offer a high level of protection |
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Mortgage Bonds
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-Backed by real property, i.e. factory or building.
-A lien is placed on the property guaranteeing its proceeds go to the bond holders in the event of a default. -Usually issued in series -Blanket Mortgage: When a mortgage secures such series equally |
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Equipment Trust Certificates
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-Usually issued by transportation companies, i.e. railroads, airplanes.
-Backed by a specific piece of equipment (ex: airplane) -Trustee holds the title to the equipment backing the bond until the principal is paid back to the bond holders. -High Grade, Very Secure, Low Yields (Serial Issue) |
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Collateral Trust Bonds
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-Backed by marketable securities deposited w/trustee
-Securities must be stocks or bonds of companies other than the issuer. -Securities are typically a subsidiary of issuer. Can NOT be backed by Real Estate. |
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Debentures
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-Unsecured corporate debt which is backed by "good faith & credit" of issuer.
-Riskier than secured debt, Higher yields. -Subordinated Debentures have junior claims, Higher Yield, Greater Risk. |
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Other types of bonds (Debentures)
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1) Income Bonds
2) Zero-Coupon Bonds 3) Guaranteed Bonds |
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Income Bonds
Adjustment Bonds Junk Bonds |
-Issuer promises to pay principal upon maturity, but will only pay interest if the company's earnings are sufficient.
-Trade flat w/o accrued interest. -Sell @ deep discounts -Issued by companies in regorganization (bankruptcy) |
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Zero-coupon bonds
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-Pay no semi-annual interst
-Issued @ a discount to par & mature @ par value. -Market prices are affected by interest rate movements, highly susceptible to INTEREST RATE RISK -Accretion = Every year a portion of the discount must be addedtothe value of the bond. |
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Guaranteed Bonds
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-Principal & interest payments are guranteed by another company
-If issuer can NOT pay, the guarantor must assume the payments to bond holders. -Guarantor is parent company of the issuer |
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Convertible Bonds
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Redeem bonds for stock in the company
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Conversion Ratio
Conversion Rate |
# of shares a bond holder will receive when they redeem their bond
Par Value / Conversion Price = Conversion Rate |
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Conversion Price
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Share value upon redemptionof the bond
Par Value / Conversion Rate = Conversion Price |
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Parity Price
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Price @ market value of stock & market value of bond are equal
Bonds Market Price / Conversion Rate = Stock's Parity Price Stock's Market Price X Conversion Rate = Bond Parity Price |
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Arbitrage
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The ability to profit from price disparities in the market place.
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Stock Splits
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If a stock splits 2 for 1 & the converstion ratio was 20 shares/bond prior to the split, each bond would now be worth 40 shares (2/1 x 20 = 40), & the new conversion price would be reduced from $50 to $25 (1/2 x $50 = $25)
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Stock Dividends
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When stock dividend is declared, convertible bond holders benefit.
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Advantages of convertible bonds to ISSUER
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-Reduce interest costs
-Not immediately diluted for ownership -Suppression of stock price would be unlikely |
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Disadvantages of convertible bonds to ISSUER
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-Dividend payments will be diluted & not tax detuctible
-May alter controlling interest in the company -May lead to uncertain financial structure for corp because unknown amound of bonds converted |
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Advantages of convertible bonds for the BOND HOLDER
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-Stock price increases w/bond issue.
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Disadvantages of convertible bonds for the BOND HOLDER
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-Offer lower yields than non-convertible issues
-Issuer can force a conversion to reduce their debt service. |
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Eurodollar bonds
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-Issued in foreign contries, but pay interest & principal in US dollars.
-Issued by multinationals, foreign gov't & int'l agencies -Pay interest annually -Convertible or zero-coupon -NOT registered in US. Can NOT trade in US utnil atleast 3 months after issuance. |
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Yankee Bonds
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-Issued in US by foreign corps & gov't
-Pay principal & interest in US dollars. -Issued when conditions are more favorable in US than foreign countries. |
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Accrued Interest
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For corporate bonds, 30 day, 360 day year.
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Dated Date
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First day on which a new bond issue begins to accrue interest. ON first interest payment date, the payment would be from the dated date up until but not including the payment date.
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Taxation of interest
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-Interest on corp bonds is taxed on fed, state & local as ordinary income
-Seller pays tax on accrued interest -Annual interest minus the accrued interest paid upon purchase is ordnary income, for the buyer. |
