29
DIY Investor Magazine
/
September 2016
NOT ONLY AREN’T ALL BONDS BORN EQUAL, MANY
SHOULD NOT BE ISSUED AS DEBT; MR BOND WARNS,
‘DON’T TAKE SHAREHOLDER RISKS FOR BONDHOLDER
REWARDS’.
What we are seeing coming to market fits into neither
category, many of these firms are start-ups with no
financial history, often borrowing money to buy assets
that ultimately collateralise the issue.
New firms with no operating companies to act as
guarantor should not be issuing debt, if they need
funds it should be shareholder equity. Equity investors,
especially those looking at smaller businesses expect
risk, in return they expect rewards; a suitable reward
isn’t a 7% coupon it is the share price doubling or
tripling.
All that happens when these new businesses issue
debt is all the risk is passed to the bondholder, if they
succeed the owner of the business still holds 100% of
the equity. Mr Bond says, ‘no coupon can compensate
for the risk you are being asked to take’
Firms borrowing to acquire assets run the risk of either
not being able to do so, or rushing and buying badly. If
the issuer cannot acquire assets, after a year they will
have had to pay one or two coupons, if the annual value
of this is 7% then they will have diminished the bonds
capital begging the question, ‘how do they return 100’?
Alternatively, rushing to acquire assets to service
coupons can lead to mistakes meaning the assets may
not be of the quality to properly collateralise the issue.
Another thing we are seeing is property linked bonds,
often these bonds sit behind senior debt from banks;
the bond is junior and is a cheap way for developers
to avoid expensive mezzanine finance or having equity
investors.
Not only are the bonds junior there may be times when
the underlying property values are not sufficient to
collateralise the bonds, especially if property prices
slow down. Not only are bondholders left unsecured
they are being short changed; mezzanine finance can
easily cost 12%+, and equity investors often expect
IRR’s of 20%+.
In addition, Mr Bond says, there are other warning
signs to look for:
•
The Listing Venue: exchanges such as the
LSE will not allow issues such as this, especially
in retail denominations, instead they gravitate to
listings such as Cyprus and Gibraltar: Mr Bond says,
‘Leave these as places to go on holiday’.
•
Fees: the prospectus should show fees, either
broken down or as a total. Anything in excess of
5% is too much, issues over £30m should be
even lower. Also check to see how the percentage
is calculated, e.g. if it assumes an unfeasible size
of issuance such as £50 or £100m.
