Bond is source of finance which is obtained for more than one year period. Bonds can be traded before the maturity and bondholders are considered to be secured creditors of the company. In general, bondholder can earn interest on principal and capital gain for holding it till maturity. (To read more about bond please read the article “Types of Financial Bond”)
There are many advantages for the company in issuing bonds such as:
01. Issuing bond does not affect the share holding and so that it does not bring problems of controlling power and decision making power will retain.
02. The interest cost can be deducted against the taxable profit which in turn reduces the tax liability.
03. No increase in no of shareholders and this will reduce cost of maintaining shareholders such as printing charges of annual reports
04. Repayment modes can be preplanned as the company knows when they have to repay the bond.
05. Bond rates are relatively lower than dividend rates and finances can be obtained at a cheaper rate.
There are disadvantages for the company on issuing bonds such as:
01. For the bonds issued company has to pay interests and that increases the finance cost of the organization and results in fall in profits.
02. Interest payments are mandatory whether firm makes profits or not.
03. There will be adverse effect on gearing ratios and that will give a negative picture on company’s performances.
04. When the debt level goes up by issuing bonds the risk level company increases and investors will be unhappy and they will start withdrawing their investments and new investors will not invest.
05. When the debt level increase the cost of capital increases as a result of investors demanding more returns to compensate the higher risk they undertake.
There are advantages for the investor in investing in bonds such as:
01. Receiving the interest income irrespective of whether the firm makes profits or not.
02. Bonds can be traded even before maturity among other investors and that bond holder does not have to wait till the maturity to get money back.
03. Bond holders are considered to be secured creditors and they will be paid before shareholders and other creditors at liquidation
04. Bonds bear lesser risk than equity capital as bond holders are guaranteed of the repayment of the capital.
05. Tax free bonds give an opportunity to reduce the income tax payment on the income earned by investing in tax free bonds.
There are disadvantages for the investor in investing in bonds such as:
01. The bond rates are relatively lower than dividend rates
02. Bondholders do not get a chance to participate in daily decision making process
03. Bondholders do not receive additional benefits as shareholders receive such as participation in AGM and receiving the copy of annual report.
04. They do not have rights for remaining assets after the liquidation.
05. Even though bondholders are secured creditors there will be no guarantee that there will be assets remaining at liquidation to repay the bond.