Analysis-Some U.S. firms wait to issue bonds in a bet rates will come down By Reuters (2024)

FAQs

Why can a company usually issue bonds at a lower interest rate than the company would pay if the funds were borrowed from a bank? ›

A secured bond is likely to have a lower interest rate because the bondholder has less risk due to their legal claim on specific, identifiable assets if the issuer should default.

The most straightforward reason for issuing bonds is to raise money for various needs such as financing ongoing operations, expanding into new markets, or launching new products. Unlike equity financing, issuing bonds allows a company to raise capital without diluting ownership.

Corporate bonds are bonds issued by companies. Companies issue corporate bonds to raise money for a variety of purposes, such as building a new plant, purchasing equipment, or growing the business. Corporate bonds are debt obligations of the issuer—the company that issued the bond.

The purpose of a bond issue is to borrow money to finance major capital projects. A capital project is generally defined as a project expected to have a useful life of 10 years or more which is estimated to cost in excess of $100,000.

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.

The coupon rate on a bond vis-a-vis prevailing market interest rates has a large impact on how bonds are priced. If a coupon is higher than the prevailing interest rate, the bond's price rises; if the coupon is lower, the bond's price falls.

Advantages of issuing corporate bonds

This offers some protection against variable interest rates or economic changes. Other advantages of using bonds to raise long-term finance include: not diluting the value of existing shareholdings - unlike issuing additional shares.

When companies want to raise capital, they can issue stocks or bonds. Bond financing is often less expensive than equity and does not entail giving up any control of the company. A company can obtain debt financing from a bank in the form of a loan, or else issue bonds to investors.

Given the numerous reasons a company's business can decline, stocks are typically riskier than bonds. However, with that higher risk can come higher returns. The market's average annual return is about 10%, not accounting for inflation.

A key disadvantage of bonds is that they are debt. The corporation must make its bond interest payments. If a corporation cannot make its interest payments, the bondholders can force it into bankruptcy. In bankruptcy, the bondholders have a liquidation preference over investors with ownership—that is, the shareholders.

Should you buy bonds when interest rates are high? ›

Should I only buy bonds when interest rates are high? There are advantages to purchasing bonds after interest rates have risen. Along with generating a larger income stream, such bonds may be subject to less interest rate risk, as there may be a reduced chance of rates moving significantly higher from current levels.

When a company increases its credit line, stocks are generally unaffected. At best, stocks may react positively because the company will not try to issue new shares and dilute current shareholders. Bonds, however, may react negatively because it could be a sign that a company is increasing its borrowed funds.

Companies issue bonds to finance their operations. Most companies could borrow the money from a bank, but they view this as a more restrictive and expensive alternative than selling the debt on the open market through a bond issue.

If you're holding the bond to maturity, the fluctuations won't matter—your interest payments and face value won't change.

Junk bonds are bonds that carry a higher risk of default than most bonds issued by corporations and governments. A bond is a debt or promise to pay investors interest payments along with the return of invested principal in exchange for buying the bond.

The ability to borrow large sums at low interest rates gives corporations the ability to invest in growth and other projects. Issuing bonds also gives companies significantly greater freedom to operate as they see fit. Bonds release firms from the restrictions that are often attached to bank loans.

Interest rates on corporate loans can be hiked, just like those on consumer credit. Banks place greater restrictions on how a company can use the loan and are more concerned about debt repayment than bondholders. Bond markets tend to be more lenient than banks and are often seen as easier to deal with.

Reasons why companies might elect to use debt rather than equity financing include: A loan does not provide an ownership stake and, so, does not cause dilution to the owners' equity position in the business. Debt can be a less expensive source of growth capital if the Company is growing at a high rate.

A loan obtains funding from a lender, like a bank or specific organizations. In contrast, bonds obtain money from the public when companies sell them. In either case, the corporation typically has to repay the borrowed money at a prearranged interest rate. To start, bonds usually have a lower interest rate than loans.