Chapter 11 : New Financial Instruments

New Financial Instruments

- Completely new products

- New features added to the conventional financial instruments

New Financial Instruments

- Floating rate bonds - Zero interest bonds - Deep discount bonds - Revolving Underwriting Finance Facility - Auction rated debentures - Secured Premium Notes - Non-convertible Debentures - Fully Convertible Debentures with Interest (optional) - Differential Shares - Securitised paper - Collateralised Debt Obligations - Inverse Float Bonds

Floating Rate Bonds

- Interest rate linked to a benchmark/anchor rate

- Helps the issuer to hedge the loss from interest rate fluctuations
- Issued with a cap or a floor

Cap is maximum interest the issuer can pay

Floor is minimum interest the investors can earn

Zero Interest Bonds

: No periodic interest payments

: Sold at a huge discount

: Can be convertible into equity on maturity : Issued for financing projects with long gestation

periods

Deep Discount Bonds

: A zero coupon bond with a long maturity

: IDBI issued these in 1992

: Variations: Zero premium secured convertible bond investor can convert his bond into equity on 30 % discount on average price or having option conversion into two equity shares on maturity : Zero interest fully convertible debenture At the maturity fully convertible into equity or if company going to right issue then first offer is made to this debenture holders

Revolving Underwriting Finance Facility

- 91 day debenture with following features

Underwriter who will be prepared to pick up the lot if it is not fully sold
After 91 days the stocks will be redeemed and reauctioned. - Treasury bill rate bench mark rate - Enables raising long- term funds at short- term rates

Auction rated debentures

- Secured redeemable, non convertible instrument privately placed with bids - first offer by ashok leyland finance Three year instrument with zero coupon rate sold at discount. The company repurchased after three month and then reissued them ay fresh auction. The interest rate were negotiated in this auction

Secured Premium Notes with Detachable Warrants

- Redeemable, convertible after four to seven years

- Lock in period with no interest

The attached warrant ensure the investor to apply for the shares

- Option to sell back the SPN to the company after the lock in period if this option excersise no interest paid on redemption
If the holder holds it further then at the time of redemption decided by company the interest is paid

Non- Convertible Debentures with detachable equity warrants

- Option to buy a specific number of shares - Lock- in period- after the specific lock I period the holder has to apply for equity shares . If if the option is nor excersise then the unapplied shares are disposed of by company

Secured Zero Interest Partly convertible debentures with detachable and separately tradable warrants
- Two parts : Part A : Convertible

Part B : Non convertible with a detachable and tradable warrant

Differential Shares
- Shares with differential rights to voting and dividend - Introduced through the Companies( Second Amendment) Act, 2000 - Positioned between equity shares and preference shares - Rules for issue : Approved in general making : Companies should not have defaulted : Dividends for three consecutive years - Benefits : Majority of investors favour higher dividend entitlement : Flexibility to promoters : Helps in leveraging capital structure

Securitised Paper
-Meaning: Illiquid assets packaged and converted into tradeable securities known as pass through certificates (PTCs) -Process:(1) Securities identified on the basis of creditworthiness (2) Rated by a credit rating agency (3) Pool sold to SPV-a trust which then issues asset-backed securities (4) Securities listed and traded on NSE

Collateralised Debt Obligations

- Consists of collateralised bond obligations

collateralised loan obligations

- ICICI Banks first issue failed but was a success when relaunched aftertwo years

Inverse Float Bonds

- Floating rate of interest inversely related to short term interest rates - Floating rate Mibor - Helps in hedging interest rate risk

Municipal Bonds

Issued by Municipal Corporations to finance infrastructure projects. AMC-the first municipal corporation to raise funds through these bonds.