Extract

1.1 The Importance and Economic Relevance of Corporate Bonds

Whenever a company is in need of funds to finance future investments, management is frequently confronted with the question as to which type of capital to choose: equity, debt or a combination of both. Straight equity capital can be gained through initial public offerings (IPO) or, if the company is already publicly listed, seasoned equity offerings (SEO). Basically, buyers of the shares (i.e. share- or stockholders) own a part of the company and obtain the potential to profit or lose from this investment depending on how the company fares. Monetary gains for the investors are realized through dividend payments or stock price appreciation, while the latter requires the shareholders to sell their stocks. Losses for the stockholders occur when the stock price declines. While stockholders in general, have numerous rights and the power to decide about the utilization of a company’s earnings, they are not entitled to a steady return on their investment. In a worst case scenario, shareholders obtain no or only negative returns because the company only generates losses and its stock price declines. On the other hand, stockholders have access to, in theory, possibly unlimited returns, as they participate with a certain percentage on a firm’s profit.

If equity capital is on the left hand side of the continuum of types of funds, then debt capital represents the right hand side of this continuum. The reason is that debt and debt securities...