Bondholders value

Clearly, the interest group of bond creditors has become more and more important. Bondholder value has gained prominence in the capital markets. 

This chapter defines the term bondholder value and contrasts it with shareholder value. In a second step, the different viewpoints of shareholders and bondholders are examined respectively. The discussion of both parties conflicts of interests concentrates on capital structure, share buybacks, dividend policy, and corporate strategy. As there are also similarities between shareholders and bondholders, instruments of the shareholder value concept that can be used to create bondholder value are described. That includes investor relations, risk management and the balanced scorecard. 

Key to comprehending the motives of shareholders and bondholders is to understand how shareholder value and bondholder value are measured and how this translates into different claims of both stakeholder groups. This is discussed in the section below. 

Company value can be enhanced by measures increasing shareholder value. The value of debt should not be diminished. The most effective way to increase the company s value is to simultaneously raise shareholder value and debt value. Both shareholders and bondholders are important. The question is how bondholder value can be defined analogously to shareholder value. This is discussed next. 

There is no generally accepted definition of bondholder value. It could be set equal to the market value of a company s debt. The market value of outstanding debt could be increased by issuing more bonds. This would adversely affect the market value of existing debt. Alternatively, bondholder value is based on the yield spread to government bonds the wider the spread, the higher the risk associated with the issuer. A spread widening due to the company s activities leads to a reduction of bondholder value. 

Research studies found that risk premiums fall in an environment of economic prosperity and rise when conditions are poor. Lower-rated corporations usually have less diversified sources of income and thus are more sensitive to changes in the macroeconomic situation than higherrated ones. Risk aversion increases with rising uncertainty and leads to higher expected compensation in the form of additional yield versus government bonds. Hence the effects of a company s individual actions to increase bondholder value can only inaccurately be measured. On the other hand, the spreads based on prices of the financial markets have anticipative character and reflect the expectations of a broad average of market participants. 

Apart from a rating one could target the balance sheet as an indicator for bondholder value.Many evaluations of creditworthiness are based on financial ratios (e.g., debt to equity ratio, liquidity or profitability ratios).Measuring bondholder value in this way is always due to delay Balance sheets of listed corporations are published quarterly at... 

The most reasonable way to measure bondholder value appears to look at the spread versus government bonds financial markets process information in a fast and anticipative way. Additionally, considering the spread to an index or benchmark bond representing the sector of the corporation allows to largely eliminate sector specific and general interest market related factors. 

Shareholder value focuses on increasing the value of equity and of the corporation, while bondholder value concentrates on timely payment of coupons and principal. Exhibit 2.3 displays further differences between shareholders and bondholders. 

The increasing relevance of shareholder value and the corresponding awareness of the problem of an optimized capital structure has led to the significant rise of corporate bond issuance since the start of the European Monetary Union. Investors are able to diversify more broadly, maximize returns and invest beyond formerly existing frontiers. Issuers can reduce financing costs and increase the company s valne, which benefits bondholders. Thus concentration on shareholder value also generates bondholder value. 

A strategy to increment shareholder value at the expense of bondholder value could be implemented by wealth transfer from bondholders to shareholders (e.g., by issuing a bond and paying out the proceeds as a dividend). Intended investments could be omitted and saved expenses paid out to shareholders. By analogy this could happen with the sale of core assets. In these situations bondholders lose if they did not already demand a compensation when the bonds were issued. 

Apart from covenants, instruments of shareholder value can be used to increase bondholder value. These are discussed in the next section. 

The effect of share buybacks on bondholder value cannot be answered unequivocally. Although there is a risk of wealth transfer from creditors to shareholders, an increased stock price can for example avoid a takeover of the company. Empirical studies come to contradictory results. 

In the long run the aims of shareholders and bondholders are largely congruent. This is punctuated by the fact that instruments of shareholder value (investor relations, risk management, and balanced score-card) can be nsed to enhance bondholder value. Thus it does not make sense to pursne short-term maximization of the stock price at the expense of the company s creditors. 

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