Ch 5 Flashcards
Just as a home ordinarily would have a market value greater than the principal aount of its mortgage, the value of the real estate pledged by the corp will be…
in excess of the amount borrowed under that bond issue.
If corp develops fin problems and isn’t able to pay the interest on the bonds, those real asssets pledged as collateral are generally sold to payoff the mortgage bondholders.
equipment trust certificate
debt secured by a specific asset
railroads and airline companies finance acq of their rolling stock, locomotives, or airplnes by issuing an equipment trust certificate.
Because the equipemtn does wear out, the railroad will pay off a portion of the loan on an annual basis.
If the co. finishes paying off the loan, the co. receives clear titlee to its equipment from the truste..
If the co. does NOT make the payments, the lendor reposesses the colalteral and sells it for her benefit.
Collateral trust bonds
corporation wants to borrow money and has neither real estate (for a mortgage) nor equipment (for an equipment trust) to use as collaterla. Instead, it deposits securities it owns into a trust to serve as collateral for the leaders.
- better quality securiites deposited as collateral = better quality and rating of the bond
debentures
unsecured corp bonds
debt obligation of the corp. backed ONLY by its word and general creditworthiness.
It’s a written promise to the corp. to pay the principle at its due date and interstt on a regular basis.
quality depends on the overall A and earnings of the corporation. Although debentures are unsecured, there are issuers whose credit standing is so good that their debentures are safer than mortage bonds of less creditworthy companies.
guaranteed bond
bond that is guaranteed as to payment of interest, or both principal and interest, by a corp centityt other than the issuer.
value of the gauranatee is ONLY AS GOOD AS THE STRENGTH OF THE CO. MAKING THATGUANRATEE.
were popular in railroad industry
Subordinated
“belonging to a lower or inferior class or rank; secondary”
also called a “debenture”
has claim that’s behind (junior to) that of any other creditor.
income bonds
aka adjustment bonds
used when a co. is oreoginaizing and coming out of bankruptyc. Income bonds pay interst ONLY I the corproation has eough income to meet intnnerst paym and if the BOD declares a payment.
NOT sutiable for cusotmers seekign stable income.
Zero coupon bond
don’t make any interest paym, so they’re issued/traded at a deep discount and mature at par.
difference between discounted purchase P and full face value at matuiry is the reutnr the investor receives (also called accretion).
greater deal of price volatility
current market price of a zero coupon bond reflects…
the current interst rates for similar matuirtiies
major attraction of zero coupon bonds?
it allows an investor to lock in a yield/ROR for a predetermined, investor-selected time with no reinvestment risk.
LIQUIDATION PRIORITY
- secred creditors (mortgage bonds, equipm trust certificates, collatral trust bonds)
- unsecured creditors (ie. general creditors, icluding debenture holder
- subordeirnated debt holders
- preferred stockhodlers
- common stockhodles
non-security priority items:
- wages (highest priorfity, AFTER securied creditors)
- taxes
- unsecured (general creditors), such as debentures
adminstirative cliams
in bankruptcies, admin roles (ie. attorneys, poperty appraisers, courts, etc) must be paid for doing work and therefore have 1st priority.
convertible debt securities
co states that lenders (investors) may exchange (convert) debt into shares of the co’s common stock
convertible sec can ONLY be issued by corporation.
Covnerstion priviliege is exercised at the discretion of the invesotr. Thhe exact number of shares that a bond will be ocnvertible into at any point is PRINTED IN BOND INDENTURE at time of issuance
advantages of convertible securities TO THE ISSUER
a corp adds a convertion feature to its bonds/perf stock to make it more marketable.
Sweenerrer:
- convertibles can be sold witht a lower coupon rrate than nonconverti les bc of the conversion feauter.
- Bc conversion normally occurs over time, an adverse effect on the stock price it’ll be $133.4
- sotkc price (which may ocrrur to do 30% rrewmarry / Omaldon
- at issuance, converrion price is ggghih err
Disadv of cusotmer securiite TO THE ISSUER
potentail disadv for a corp and its stockholders:
- DILUTION? when bonds are converted, SE is DILUTED; so more shares are outstanding, so each share now reps a smaller fraction of ownership in the company
- SHIFT IN CONTROL? common stockh have a voice int he co’s mgmt, so a substantial conversion could cause a shift in the control of the co.
- LOSS OR LEV? reducing corporate debt through conversion means a loss of leverage
- RAISING CORP’S TAXABLE INCOME? resulting decrease in deductible interest costs raises the corp’s taxable income