Why Issue Bonds Instead of Stocks?
There are some substantial advantages for issuing bonds versus selling stock. The difference between the two is that a bond is a loan with a fixed value, while a stock is selling a piece of the firm. When issuing a bond, it is tantamount to issuing an IOU to the bondholder. Bonds are fixed in value and payments to the holder. This makes them stable investments and predictable to budget.
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Features
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Bonds are a fixed income stream for the investor. The bond investment has nothing to do with the actual performance of the company. The result is that these bonds are more attractive to investors (especially in unstable times), and as a result, easier to sell. If your firm pays its debts on time, then the firm's bond rating will go up, increasing the firm's visibility and attracting more investment and attention.
Function
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A bond is a means of raising cash without giving up any control. When a firm issues stock, it is selling a small piece of itself. This means the stockholder, in theory, has a small amount of control over the firm. Issuing bonds means that money can be raised, while keeping control where it is currently.
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Benefits
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Generally speaking, issuing bonds over time is cheaper than paying dividends. In many respects, reinvesting bond money can earn a higher interest rate than what you pay to the actual bondholder. While this takes sophisticated investment planning, it does work often. Part of the reason this works is that the interest paid on bond loans is tax deductible, while dividend payments are not.
Considerations
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One of the best advantages of issuing bonds is that the payment to the bondholders can be budgeted. Predictability is the big issue here. Stock dividends are unstable because they fluctuate with the fortunes of the firm, the market and other related stocks. Stock prices can be inflated through over-investment and even media hype. Bond prices and payments remain fairly stable, and as a result, can be planned for over time. Since the firm knows these payments are a must, they can be given top priority and budgeted year after year.
Effects
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Prices of bonds are affected by the inflation rate and interest rate of the currency they are issued in. It is generally not a good idea to issue bonds when the basic macroeconomic climate is unstable. If interest rates are low and the money supply is basically stable, then bonds are the best bet. You can even issue bonds that are "fixed rate," and as a result, do not fluctuate with the interest rates of the country. If your credit score is bad as a firm, then issuing a small number of bonds might be an excellent means of raising that score, especially when rates are low and the chances of an inflationary spiral are slim.
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