In a context marked by financial market volatility, the advantages of diversifying the sources of funding are evident for businesses, regardless of their size. In long-term financing, the two more broadly used funding instruments are loans (syndicated or bilateral) and bonds, placed among institutional investors. Both instruments can be more or less tailored to fit a series of parameter, including the company’s needs, mainly maturity and price, its credit profile, repayment capacity, the market’s momentum, etc…
In other words, in the current scenario, what is more convenient for a company: to try to obtain a loan from a bank or to issue debt in the bond market? Are these two instruments actually mutually exclusive? Let’s take a quick look at this issue.
Access to funding sources
The universe of companies with direct access to bank loans is, without a doubt, much broader than that of potential issuers in the bond market. Traditionally, SMEs and smaller-sized companies have depended on banking institutions to a great extent, if not completely, at the time of borrowing, especially in Europe, where the economy’s level of bankization has been, traditionally, very strong. Many companies do not have the size or the volume of debt required to seriously consider the need to diversify their funding sources and therefore, in the corporate universe, the number of companies that actually issue bonds is very low.
The cliché according to which only large multinationals can issue bonds is no longer a reality
However, the cliché according to which only large multinationals can issue bonds is no longer a reality. Current trends point out at a decrease in the dependence on bank financing, especially in the wake of the recent economic crisis, which forced banks to contract their balance sheets in a credit restriction context. From that point of view, the critical size to access the bond market has decreased significantly, as proven by the creation of the MARF – the Alternative Fixed Income Market – in Spain, which is ultimately intended to allow SMEs to become issuers. Financial disintermediation is a fact, although Spain still lags far behind other geographies such as the United States, where bond penetration is notably higher.
Financing that fits companies needs
Companies looking for long-term financing (+5 years) and less burdensome financial constraints should find great value in the bond format. Due to their own aversion to risk and, especially, the regulatory context, long-term lending, for banks, is not the most interesting of prospects. For companies with investment-grade public rating (BBB- or above), fixed income markets are actually much more efficient than the banking sector, not only in terms of maturity, but also in terms of financial cost.
In fact, the top Ibex 35 companies (especially those with investment-grade rating) usually combine different levels of bank indebtedness and fixed income issuances, where the volume of debt in bond format usually represents more than 50% of its total debt liabilities, even 80% in some cases. For companies with subinvestment-grade or high yield rating (BB+ or lower), the bond format still offers advantages such as longer maturity terms, repayment profiles not subject to intermediate amortization fees, and limited financial covenants, even if it is no longer as competitive in cost with respect to the bank loan.
So, why are bank loans in their different formats still seen as the instrument of choice by so many companies when borrowing? First and foremost because it offers great flexibility in terms of early repayment without being penalized and the possibility to renegotiate some of its conditions (maturity, interest rate, amortization calendar, etc) by means of novations. This is especially evident in bilateral bank loans – between a company and a bank – although it also applies to the syndicated loan format, were renegotiation of conditions and maturity and calendar alterations are very common. So to speak, loans offer the tremendous advantage of being structured, tailored to fit the company and capable of adapting to its performance over time, more so when the lender is a bank that promotes relationships aimed at providing long-term support.
On the other hand, the current monetary policy implemented by the European Central Bank has relieved the lending drought during the last three years. Banking liquidity made its comeback and is here to stay, and this has rippled across the lending spectrum, fostering a very significant improvement in the conditions of bank loans. Up to a 5 year tenor, for most companies, loans offer undoubtedly competitive advantages in terms not only of financial costs, but also in structural terms, as mentioned above, without being subject to rating requirements.
Bonds and loans: complementary financing instruments
The reality is that thinking about bonds and loans in mutually exclusive terms makes no sense, as they are, in many cases, complementary products, and that is how more sophisticated companies understand it. The purpose of combining the characteristics offered by both formats is to establish an optimized and diversified financial structure in terms of funding sources.
An operation where an optimal combination of borrowing and bond issuing can be typically seen is the case of corporate acquisition funding operations. In these cases, acquisition funding is guaranteed by means of a bank loan backed by a series of financial institutions – the so-called bridge to bond loans, a name that reflects their short-term nature – with the purpose of being cancelled and refinanced in the longer-term bond market, once the acquisition is completed.
Thinking about bonds and loans in mutually exclusive terms makes no sense, as they are, in many cases, complementary products
These value-added hybrid structures are an evidence of the extent to which financial disintermediation – reflected in the surge in popularity of the bond format in recent years – does not, by any means, herald the demise of bank funding.
In this sense, BBVA has a team of professionals that strives to offer the best possible financing advice to its customers regardless of the instrument, loan or bond, in order to implement value-added integral and creative solutions, optimizing this way the customer experience.
This article was written by Emilio López Fernández, Head of Corporate Lending for Iberia, and Javier Urraca, Head of Debt Capital Markets for Commercial Banking customers.
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