Corporate Bonds Explained
Companies issue bonds to borrow money from an individual or institutional investors who are known as bondholders. By purchasing a corporate bond, the holder agrees to lend the issuing company a certain amount of money for a specific period at a fixed rate of interest. When the bond reaches its maturity date, the investor gets their entire principal back. At this point, they have also earned additional returns due to periodic interest payments (also known as coupon yields).
When the issuer issues the bond, they also declare its “face value.” Also known as the bond’s nominal value or par value, it refers to the amount the bondholder will get once the bond reaches maturity, as long as the issuer doesn’t default.
Of course, the bond’s face value doesn’t reliably indicate its actual market value because bonds sold on the secondary market fluctuate due to supply, demand, interest rates, and other factors. That’s why in the secondary market, a bond may be available at a price lower than the face value, in which case, it is said to be sold at a discount (below par). On the other hand, if the asking price is higher than the face value, the bond is sold at a premium.
Raising Funds for Business: Bonds v/s Bank Loans
Indian companies have many options when it comes to borrowing funds. One of the most popular options is a bank loan. Most Indian banks offer many types of loans to companies, including business loans, term loans, and working capital loans.
Some also offer specialised loans, such as startup loans, small business loans, loans against property (LAP), and point of sale (POS) loans. These loans can be secured (require collateral) or unsecured (no collateral required), and their interest rates, tenures, and repayment schedules can vary depending on the following:
Borrower’s credit history and creditworthiness
Raising Funds for Business: Bonds vs. Equity
A bond is a debt-financing instrument. Companies can also borrow money by issuing stock, aka equity. With this instrument, the money does not have to be repaid to investors. However, when a company issues shares of stock, they also grant proportional ownership in the firm to every investor.
Not every company wants to do this because ownership equates to control (at least to some extent). Here’s where bonds can be a suitable financing option.
By issuing bonds, the company does not have to slice up its equity in exchange for investors’ funds. Instead, it slices up its debt and sells it to investors in smaller units.
Other Advantages of Raising Funds Through Bonds
We have already seen why issuing bonds can be a better funding option than bank loans and equity. Here are the other advantages of raising funds through bonds:
1. Source of Ready Cash
Bond issuance is a good way to access ready cash and get a short-term capital boost, especially if the company has a good reputation and is trusted by potential lenders. This is because it can attract a large number of lenders in an efficient manner and a short time.
2. Low-Cost Source of Funds
As we saw earlier, raising funds through bonds may be cheaper than getting a bank loan. The company can further lower its borrowing cost by issuing debt at lower interest rates. These lower rates are very much possible if the bond gets a good credit rating from a credit rating agency like CRISIL or ICRA and if the company can show consistent earnings potential and robust fiscal health.
3. Flexibility of Bond Types
Firms have the flexibility to offer many types of bonds, depending on their requirement and what they can offer to investors. For example, they can issue collateralised debt obligations (CDOs), unsecured bonds, or callable bonds.
Some companies issue convertible bonds, which give bondholders the right to convert the bond into shares at certain times during the bond’s tenure or on its maturity. Others issue non-convertible bonds (NCDs).. On the other hand, these bonds don’t allow holders to convert their holdings into equity, so the company continues to retain full control over its equity.
4. Easy Record Keeping
When a bond is issued, all bondholders get the same interest rate, tenure, and maturity date, regardless of the amount invested. In short, they all get the same deal. All of this simplifies recordkeeping for the issuing company.
Aspero: Simplifying Bond Issuances and Investments through Technology
India’s bond market offers many ways for companies to borrow funds fairly easily and at a reasonable cost. Over the past couple of decades, the Indian government, the RBI, and SEBI have stepped up their efforts to develop the country’s corporate bond market.
Technological advancements, particularly around digitisation and automation, have also made it easier for companies to issue bonds and access much-needed funds. AsperoInvest is at the forefront of these developments.
Aspero facilitates seamless fixed-income transactions between borrowers and investors. Whether you are a wealth partner or an HNI/family office, the platform can help you access the best investment choices for your needs. And if you are a bond issuer, Aspero will help you raise capital and meet your debt requirements in the most seamless manner.
Frequently Asked Questions
What are the key takeaways from this article?
Companies issue bonds to borrow money from an individual or institutional investors who are known as bondholders. By purchasing a corporate bond, the holder agrees to lend the issuing company a certain amount of money for a specific period at a fixed rate of interest. When the bond reaches its maturity date, the investor gets their entire principal back. At this point, they have also earned additional returns due to periodic interest payments (also known as coupon yields).
Who should read this article?
This article is designed for retail investors, first-time bond buyers, and anyone looking to understand fixed income investments in India.
How does this relate to my investment portfolio?
Understanding these concepts helps you make informed decisions about asset allocation and build a diversified investment portfolio.
