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FINANCIAL WATCH:Corporate Bonds: Alternative source of private sector financing
2006-02-08 07:49:10
By Theo Mushi
Before the launching of the Dar es Salaam Stock Exchange, the major source of finance for starting or expanding existing enterprises was to raise one’s own capital internally or resort to borrowing from commercial banks.
Loans from banks as source of capital carry high interest rates and hence the need to generate large profits to repay bank loans and retain some of the profits for sustaining operations.
In 1998 the Dar es Salaam Stock Exchange (DSE) was launched and to date there a number of listed equities which include TBL, TCC, TATEPA, TOL, Tanga Cement, Swiss Port (Former DAHACO), and Kenya Airways’ shares which have been cross listed on the Dar es Salaam Stock Exchange.
Other securities which are included in the secondary market in the Dar es Salaam Stock Exchange are several government bonds.
To date listed corporate bonds are few and these include BIDCO, EADB and PTA BANK.
It has been difficult to list many companies especially those which were not privatized state enterprises.
A good number of them do not meet the stringent listing conditions, which include their years trade record of generating profits and the requirement of continuous public exposure of the affairs of the company.
There are others which quality to get listed but the current owners of those companies are reluctant to go public and float their shares at the DSE.
The fear is based on the wrong or incorrect assumption that once they go public the owners will lose control of their companies to outsiders and most of them opt to became family enterprises.
But these companies need to restructure their balance sheets by reducing the cost of capital due to dependence on bank borrowing which carries such high interest rates. The other alternative to listing their shares is to float bonds which are essentially debt- instruments with predetermined interest rates and repayment times.
A company sends its proposal to DSE which includes financial projections before it is authorized to float its bonds.
Strict scrutiny is needed because there are several factors which may affect future profitabilty of the company and this includes government policies and taxes.
Bonds are increasingly being used in industrialized and emergent economies as an alternative source of private sector financing.
A recent study by IMF economists indicates that over the past decade national authorities in emergent markets as well as in industrialized countries have given bond market development more prominence as their awareness of the importance of establishing a deep and liquid corporate debt has increased.
It is noted however that despite these advances corporate bond markets in many countries are still largely underdeveloped.
A new IMF study examines the fundamental requirements for corporate bond market. development company experiences across mature and emerging markets.
Several fundamental requirements have been identified such as reliable market infrastructure, credible benchmark issues in the form of liquid securities with relatively low default risk, good corporate governance and transparency and the maturity of domestic institutional investors.
It is noted that as for the benchmarking requirement the low credit risk and high liquidity features of government securities can make them natural providers of benchmark interest rates.
It is suggested in the study that this in turn can facilitate issues of similar maturity terms by the private sector.
In the Tanzanian context government bonds have become increasingly popular with individual and institutional investors because they are perceived to be risk free, but it is expected that with the establishment of a Credit Information Bureau, more corporate bodies can sell bonds to the public.
There are other aspects which have a less clear impact on bond market development and these include credit – risk-pricing government policies such as taxes and insurance, regulations, role of foreign investors and the sequencing of market reforms.
It is also noted in the study that institutional and policy factors in developed markets have played an important role in bond market development It is also observed that implementation and sequencing of reforms are key for corporate bond market development.
The study reveals that this is easier said than done because a number of countries have made headway in developing government bonds but corporate bond markets have developed more slowly, Among the reasons for this trend it is noted that lack of liquidity in secondary markets can limit corporate bond market development.
It is noted that even in developed markets like the USA and Europe, the majority of bond issues are still relatively illiquid.
It is also noted that in developing countries like Tanzania there are limitations to develop bond markets. Secondary market liquidity is worse in the case of new stock exchanges like DSE.
This is because only a few large corporations are able to issue bonds on a scale that is sufficient to create a market where investors can change their trading positions without moving the price against them.
It is noted that this problem is made even bigger by the underdevelopment of derivatives markets in some of the developing markets in some of the developing countries and this limit is the ability of investors to hedge their exposures.
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