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BPP University College Of Professional Studies Limited (BPP)
Legal Practice Course
Business Law and Practice
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Debt Finance for Companies-
Finance-
A company needs capital, to fund:
Start up expenses
Working capital
Expansion & growth
This capital comes from:
Equity
Debt
Hybrids
Retained profits
What is debt finance?
Simply, it is ‘borrowing money’ from banks, financial institutions or other lenders
Types of debt finance-
Debt finance can be classified in 2 ways:
Loan facilities:
An agreement between a borrower and a lender which gives the borrower the
right to borrow money on terms set out in the agreement.
Debt Security:
In return for finance, provided by an investor, the company will issue acknowledgement of
investors rights against the company
o This can either be kept of sold to another investor
Loan Facilities-
Over draft:
On demand facility – the bank can call for the money owed at any time
Not usually long term
Interest paid on the amount overdrawn
Term Loan:
Borrowed for a fixed period eg: over 5 years
The lender cannot call for repayment before the agreed date – unless there has been a breach in
the agreement
The borrower pays interest to the lender on the amount borrowed for the
duration of the loan.
, Where the repayment is in a lump sum at the end of a term – this is known as a ‘bullet
repayment’
Where a loan is repayable in installments – this is known as ‘amortising’.
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Debt securities-
Bonds:
Each bond is represented by a piece of paper (a security) which records the
rights of the investor.
As bonds are a form of debt, those rights are similar to the rights of a lender
under a loan facility. The issuer promises to repay the value of the bond to
the holder of the bond at maturity. Until then, the issuer promises to pay
interest to the holder on a periodic basis
Whoever holds the bond on maturity will receive the value of the bond back
from the issuer. The markets on which bonds are traded, whether physical or
virtual, are referred to as the ‘capital markets’.
-
Debt/ Equity Hybrids-
Convertible bonds-
Bonds which can be converted into shares in the issuer
Shares are issued in return for the bondholders agreement to give up its right to receive interest
and repayment of the principle invested amount
Has characteristics of both debt & equity – but not at the same time
Starts as debt; a bond
When swapped, he becomes an ordinary shareholder - equity
Preference shares -
preference share is wholly equity, but it is often called a hybrid because it
has elements that make it look similar to debt.
Financial Reporting Stanards provide there are times where they should be treated as debt for
accounting purposes
Holder of a preference share will not normally have voting rights & has a defined amount of dividend
So where it has a maturity date on which the company must redeem/ purchase the share, then it looks
more like a debt
if the preference share does not have such a fixed maturity date and/or the
preference dividend will only be paid if the company declares a dividend
(unlike interest, which has to be paid), then this share is more akin to
traditional equity.
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