9.5 Debentures and bonds

Question 1

What is a bond?

Answer 1

A general term for various types of long term loans to companies, including loan stock and debentures.

Question 2

What is the most common form of long-term loan used by companies?

Answer 2

Debentures

Question 3

Can debentures be traded?

Answer 3

Yes, they can usually be traded on a stock exchange.

Question 4

What are “secured” and “unsecured” bonds/debentures?

Answer 4

Bonds/debentures are either secured against collateral or not.

Question 5

Under what circumstances would an investor take out unsecured bonds?

Answer 5

Only where the reputation of the issuer (company/government) is such that they are unlikely to default on payment.

Question 6

What are “convertible” and “non-convertible” bonds/debentures?

Answer 6

Convertible bonds may be converted to equity shares, whereas non-convertible may not.

Question 7

What are the advantages of bonds?

Answer 7

• repayable on a fixed date at a fixed interest rate
• there are no legal restrictions on issue of debentures (unlike with shares)
• debenture holders typically have no right o vote on company business.

Question 8

What are disadvantages of bonds?

Answer 8

• debenture holders are creditors and therefore get first charge over assets used as security if the company is liquidated.
• debenture holders receive interest payments regardless of profit or loss, and these are due prior to payment of any dividends, which may disadvantage shareholders.
• debentures can increase the gearing ratio of a company, which may make investment less desirable.

Question 9

What is a “coupon” bond?

Answer 9

A bond with a fixed interest rate e.g. a 10-year bond with a coupon of 10% and par value of £100 would require the company to pay £10 annually in interest and then a £100 payment after 10 years.

Question 10

What is a “deep discount” or “zero coupon” bond.

Answer 10

Bonds issued at a large discount in comparison to their nominal or face value. Interest is usually low or zero, but the investor receives a large bonus on maturity. e.g. £1000 bonds issued at a cost of £700. The investor does not receive interest, but will receive the full £1000 on maturity.

Question 11

What are Eurobonds?

Answer 11

A bond issued for international investors, in a different currency to the home currency. Note that the name is misleading and these do not need to be issued in Europe (i.e. EuroYen or EuroDollar)

Question 12

What are “share warrants” (a.k.a. options)?

Answer 12

Rights given to lenders allowing them to buy new shares in a company at a future date at a fixed, given price.