Comment: The case for a strong corporate debt market

Corporate debt markets are vital to the robustness of the financial system.


Eqan Ali Khan/bina Ashraf June 19, 2011

Engro Corporation recently announced the launch of its second issue of Engro Rupiya Certificates, providing investors with an opportunity to invest at a healthy 14.5% rate of return per annum over a three-year period.

This issuance follows the first issue in October 2010 when subscriptions exceeded the target with close to 80% of the amount coming from individual investors. For retail investors, the current issue offers a healthy substitute for investment compared to other available options due to higher rate of return, six-monthly profit payments and encashment option at any point during the three-year period with a minimal penalty. At the same time, this will result in a lower effective cost of borrowing for Engro when compared with other long-term borrowing options.

Rupiya is part of Engro’s strategy to diversify its sources of funding in order to meet capital requirements for its businesses in diverse sectors including fertilisers, foods, power generation and others.

Engro’s financing strategy revolves around effectively utilising the equity market while playing an active role in developing the retail debt market. As part of this strategy, Engro Foods is planning to make an Initial Public Offering (IPO) in July while Engro Fertilisers and Engro Power Generation are expected to do the same later this year.

The current Rupiya issue will be used by Engro to support debt obligations for its subsidiaries in fertilisers, foods or power generation. The company plans further issues in future to reach the untapped retail investor segments, who are looking for better investment alternatives. This strategy allows Engro to reduce its reliance on the banking sector to fund its ambitious growth projects.

The positive response by retail and institutional investors to Rupiya is likely to encourage other corporate houses to also launch debt instruments and help change the corporate debt landscape in Pakistan to facilitate economic growth.

Developing corporate debt market

Corporate debt markets are vital to the robustness of the financial system as they strengthen and diversify funding channels for economic growth, reduce risks in an economic downturn and provide diverse opportunities to institutional and retail investors for maximising their returns.

Pakistan’s equity market has seen significant growth and development in recent years in terms of depth and infrastructure. In comparison, the debt market remains significantly underdeveloped. Major drivers of financial assets are deposits and government bonds, whereas corporate bond issuances remain a miniscule portion, with total outstanding (listed) issues at Rs45.1 billion (0.7 per cent of gross domestic product) by the end of FY07, in comparison with South Korea at 28.3 per cent and Malaysia at 32.5 per cent.

Developing the corporate debt market will result in following benefits:

Efficiency in the banking system – A viable corporate debt market will help to provide an alternative source of external finance to corporate entities which will improve banking efficiency.

Broadening of investment options for investors – A developed corporate debt market will provide more avenues to retail investors to channelise their funds as they can have a more diversified portfolio of investments to better manage their risk and return.

Better access to financial resources for issuers – From an issuer perspective, a deepening of issuer class would allow corporate houses requiring financing better access to financial resources and lead to a well-diversified financial system.

Way forward

The major obstacle in the development of the corporate debt market has been lack of awareness among retail investors regarding corporate bonds, negative perception regarding term finance certificates (TFCs) as well as lack of liquidity due to absence of an efficient secondary market where TFCs can be traded.

Published in The Express Tribune, June 15th, 2011.

COMMENTS

Replying to X

Comments are moderated and generally will be posted if they are on-topic and not abusive.

For more information, please see our Comments FAQ