Page views: -
The name itself suggests something binding, namely an instrument of debt in the form of a tradeable financial asset, or security. The entity issuing bonds (the issuer) obtains financial resources from investors buying the bonds. Just as with a bank loan, the money obtained is owed and must be repaid.
Most commonly, bonds are issued with coupons. In accordance with the terms of the bond issue, the issuer regularly (e.g., one to four times a year) pays interest (the coupon) to bondholders on the money owed until the bond matures. With the final payment, the issuer also repays the money owed (face value). Bonds are usually issued with a maturity of five or more years, the main reason being the comparably high fixed costs that are best spread over a longer period. Another reason lies in the suitability of bonds as instruments for raising finance for projects with a delayed return on investment.
A bond prospectus is a document with information for investors, intended to assist in assessing the potential risks associated with the bond issue. Given the extent of the information to be included in a prospectus, creating it can be demanding.
The following situations permit the issuing of bonds without a prospectus:
Due to the lower threshold dictated by economic reasons and the upper threshold determined by limits imposed on non-public offerings, these usually involve bond issues raising between CZK 100m and CZK 250m.
Placing bonds in a non-public offering is not without its risks in terms of the liquidity secured (i.e., the ability to reach enough investors). Seeking the assistance of suitable financial and legal experts is therefore recommended.
Public bond offerings exceeding EUR 1m in value require the issuer to complement the terms of the issue with a prospectus. The prospectus contains information about the terms of the issue, the sale and repayment of the bonds, the financial status of the issuer and the identification of potential risks of failure to repay the bonds issued.
A public offering involves attracting an unspecified group of investors with an issue of bonds, supplemented by a prospectus providing information on the terms of the issue, the sale and repayment of the bonds. The objective is to enable potential investors to make an informed decision on the purchase, or underwriting, of the debt securities. Selling bonds through a public offering requires the release of a corresponding prospectus and approval for a public offering from the Czech National Bank (CNB). However, this still does not equal public tradeability.
Public tradeability is the ability to actively sell/buy the securities on existing markets (such as Prague Stock Exchange). Publicly tradeable bonds are more attractive for investors thanks to their higher liquidity. Such bonds, however, must meet additional conditions specified by the market, e.g., the Prague Stock Exchange.
The whole process of issuing bonds is rather demanding. The recommended route is therefore to take advantage of the services of experienced advisers and an underwriter.
The preparatory stage includes an assessment of the issuer’s ability to repay the intended volume of bonds. This assessment also produces a realistic set of issue terms. The terms of the issue are then specified in detail in cooperation with the legal counsel. A prospectus is required for public offerings in excess of EUR 1m and such offerings must be submitted to the CNB for approval.
Once all the preliminary steps have been completed, the trader offers the bonds to buyers/investors and the issuer receives the funds, to be repaid at a later date. The whole process comprises the following main steps:
The whole process of a bond issue not requiring a prospectus usually takes five to six months. If the issue requires a prospectus, one or two extra months are usually required.
The overall costs of a bond issue vary depending on the size of the issue. As a rule of thumb, bigger issues are more advantageous as the fixed costs remunerated to the underwriter, trader and counsel are diluted in the bigger volume of funding raised.
Cost entry | Issue w/o prospectus | Issue w/o prospectus | Issue with prospectus |
---|---|---|---|
Issue size | CZK 100m | CZK 150m | CZK 300m |
Legal counsel | CZK 100,000 - 150,000 | CZK 100,000 - 150,000 | CZK 200,000 - 300,000 |
Fixed costs of transaction | CZK 700,000 - 1m | CZK 700,000 - 1m | CZK 700,000 - 1m |
Variable costs of transaction (3–5%) | CZK 3m – 5m | CZK 4.5m – 7.5m | CZK 6m - 12m |
Additional counsel (optional) | - | - | - |
Total one-off costs | CZK 3.8m - 6.15m | CZK 5.3m - 8.65m | CZK 6.9m - 13.3m |
Total one-off costs as % | 3.80 - 6.15% | 3.50 - 5.77% | 2.30 - 4.43% |
Annual administration cost | CZK 200,000 - 400,000 | CZK 300,000 - 600,000 | CZK 600,000 - 1.2m |
Bonds, in a similar fashion to bank loans, serve as an instrument to secure funding for a business in the active stages of its development, beyond inception, when it may still lack reliable revenue and profit required for repayments. Moreover, when weighing the risks and benefits of an investment, responsible investors consider the issuer’s track record in honouring obligations and such information is not readily available in the early stages of a company’s existence.
For bonds, as an alternative to bank loans, it is wise to consider the following aspects:
The advantage of issuing bonds lies in the opportunity to raise a considerable amount of financial resources with a longer debt maturity. Businesses raise capital by issuing bonds to support the growth of their undertaking, acquire real property or equipment, carry out profit-generating projects, fund research and development or hire employees. The main benefit of raising capital via a bond issue lies in the acceleration of growth compared to a business that puts off investment until the necessary capital is created from revenue.
Compared to a bank loan, where the lending bank sets a number of conditions before granting a loan, a standard bond issue offers greater flexibility as it allows the issuer to specify the terms of the issue while also allowing greater freedom in utilising the funds raised. The more lenient conditions of bond issues also preserve access to additional sources of finance, which may be put out of bounds by the conditions attached to a bank loan.
Revenues from business that increase gradually often fail to match the demands of banks regarding the repayment of loans. At the time when repayments begin, a business may still lack available funds for instalments repaying the face value and interest, since the funded project in its early stages does not generate sufficient revenue streams.
Bonds, on the other hand, delay the repayment of the amount owed until a later date, while only the interest is paid. Thus, the repayment of bonds is more closely aligned with the actual progress of a business undertaking, namely limited revenues and low payments in the early stages but higher revenues and the repayment of the debt when the funded project is in place.
Low income at the beginning of the business corresponds to low interest payments and does not burden the company.
There is a wide array of bond types. The most basic classification would divide them into sovereign (government), municipal and corporate bonds. This text concerns itself with corporate bonds. These can be classified according to the interest rate, availability of the asset-based security and other features or terms. The terms of a bond issue are specified by the issuer according to the needs of the issuer and their acceptability to investors.
In order to strengthen the trust of investors, the issuer may pledge an asset (e.g., property or receivables) as collateral, obtain surety from an affiliated business (e.g., a parent company promising to repay debt for its insolvent subsidiary), or secure the bonds in another fashion (e.g., by pledging to use revenues from the funded project primarily for bond repayment).
This increased trust translates into higher attractiveness of the bonds when placing them on the market and potentially also into a lower interest rate (coupon) that is a cost to the issuer.
If the issuer is unable to pay interest or repay the face value, bondholders are entitled by law only to compensation from the issuer’s assets. There is therefore an increased risk to investors of not recovering their investment in the event of the issuer’s insolvency.
The interest rate remains the same for the whole term of the bonds.
For bonds with a variable rate, the interest rate changes in alignment with an agreed reference value. The most common approach is to increase the quoted margin (coupon rate/margin) according to a reference interest rate, such as the Prague Inter Bank Offered Rate (PRIBOR). The margin remains fixed, while the reference rate develops over time, causing changes to the interest rate paid on the bonds.
A zero-coupon bond carries no regular interest (coupon) payments during the term of the bond while the face value is due for repayment upon maturity.
The developer behind successful Prague business centre Brumlovka made a strategic shift in 2014. It decided to repurchase and manage office buildings the company once successfully sold. Thanks to bond issues, they now again own six out of the nine office buildings in Brumlovka. What is behind a successful bond issue? How does the issuer properly target investors and gain their trust? Watch the story of Passerinvest Group.
What are bonds and why consider financing a business through them. Tomáš Kálal, Director of the Investment Banking Department at Conseq, answered these questions. In the interview, you will find out who you can issue bonds to, how complicated this process is, how much it costs and what the risks are.
First, it is advisable to select the underwriter (lead counsel or securities trader) to act as the main partner for the bond issue.
The trader also helps with structuring the issue, preparing documentation related to the offering and presenting the offering to investors during the roadshow.
Financial counsel | Legal counsel | Trader (bond issue underwriter) |
---|---|---|
Corresponding expertise in capital markets and corporate finance | Law office with expertise in corporate law and financial markets | Corresponding expertise in capital markets, corporate finance, marketing and sales |
- Coordination of the whole transaction | - Příprava prospektu, včetně jeho schválení ze strany ČNB, popř. vyhotovení jednodušších emisních podmínek. - Asistence s informačními povinnostmi. | - Specification of the essential conditions of the bond issue in order to make the issue attractive to investors - Assisting with investor roadshow and marketing - Seeking out potential investors |
Despite the option of completing the whole process without third-party assistance (consulting company), in reality there are very few companies that have their own capacity for this. The vast majority employ people with bond market experience and it is not financially viable for them to hire additional staff only to manage entry to the bond market. Most companies therefore hire a financial advisor, paid according to their success in dealing with the whole process.