(upbeat music)
-: There are a range of short term
and long term debt financing instruments
available to organisations.
Friendly Pots Limited manufactures and sells garden pots
and wants to grow its operations
and enter a new geographical market.
To do this, it needs investment
in its manufacturing infrastructure,
human resources and information technology.
It also requires additional working capital
to manage higher inventory
and accounts receivable balances.
Long-term debt financing instruments
such as bonds, debentures, leases and bank loans
are typically used to fund long-term assets.
The new manufacturing facilities and equipment
are the types of assets that may be best suited
to long-term debt funding.
Bonds are one way that Friendly Pots
could raise funds from investors.
As the issuer, Friendly Pots would have an obligation
to repay the principal, or face value of the bond,
to investors at maturity.
In addition, depending on the structure of the bond,
Friendly Pots may have an obligation
to pay coupons, or interest,
on the bonds to the investors at regular intervals,
such as every six months.
The coupon rate could be zero,
that is a zero coupon bond.
It could be a fixed rate, such as 5%,
or it could be a variable rate,
usually based on a benchmark rate
such as the Bank Bill Swap Rate, or BBSW.
If Friendly Pots wishes to raise $2 million
to put towards the new manufacturing infrastructure,
it could issue 20, 10 year bonds with a face value
of $100,000 Australian dollars each
and with a coupon payment of BBSW plus 3%.
While the face value of the bonds may total $2 million,
the actual amount paid by investors,
that is the market price of the bond,
may be more or less than $2 million.
This is because the market price depends
on a range of factors,
such as current market interest rates,
the liquidity of the bond,
and the credit quality of Friendly Pots.
An investor will purchase a bond
with a face value of $100,000 Australian dollars
and will receive coupon payments
of BBSW plus 3% of the face value
over the life of the bond,
with the face value being repaid at expiry in 10 years.
Issuing debentures to investors
is another way that Friendly Pots
could also raise funds on a long-term basis.
Debentures are designed
for a more specific purpose than bonds
and are a security issued in exchange
for a secured loan.
So Friendly Pots could issue a debenture
with a face value of $2 million
paying a fixed interest rate of 6% per annum
as debentures normally pay a fixed interest rate
and with a fixed maturity date in 10 years.
The buyer, or investor,
provides the $2 million in funding to Friendly Pots today.
A Debenture Trust Deed is required to be executed
and will include a fixed charge
over Friendly Pots manufacturing facility
or a floating charge over all assets.
Friendly Pots will be required
to pay the fixed interest rate of 6%
of the $2 million face value on the debenture each year
and repay the $2 million face value
at the end of the 10 years.
A finance lease could also be considered by Friendly Pots
to fund its investment.
A finance lease is a good option for equipment or machinery.
The risks and benefits associated with
the asset under the finance lease
will substantially transfer to Friendly Pots
but not legal ownership until it is repaid in full.
Payment by instalments over the term of the lease
will be required, with possibly a balloon,
or lump sum final payment at maturity.
The advantage, is that Friendly Pots
still has control of the leased assets
while it is making the repayments
as opposed to an operating lease.
Alternatively, a loan from a bank,
or other financial institution,
is a common way to fund long-term investment.
A bank loan is very similar to a debenture
in that it is likely to be secured
against a specific asset
or by a floating charge over assets.
It will be for a set period
and interest will be paid
on a fixed or floating rate basis.
Typically, repayments will be set instalments
of principle and interest,
or interest only, over the term of the loan.