State Bank eases rules on commercial paper
KARACHI:
In a move that is likely to increase the size of the short-term securities market, the State Bank of Pakistan has eased the rules on banks investing in commercial paper, according to a circular issued by the central bank on Monday.
Banks will no longer be restricted from investing in commercial paper issued by companies that have a debt ratio of higher than 60 per cent or a current ratio of lower than one. Both the debt ratio and the current ratio are metrics used by investors in fixed income securities to determine the likelihood of receiving interest income on their investments.
The debt ratio indicated what percentage of the company’s total assets has been financed by debt. It is a measure of whether or not the company has taken on too much debt. Another such measure is called the current ratio, which measures whether or not the company has enough liquid assets to meet its most immediate liabilities.
By removing the requirements for both of these ratios, the central bank has allowed banks to invest in riskier securities.
Commercial paper is an unsecured, short-term debt instrument issued by a corporation, typically for the financing of short-term liabilities such as accounts receivable and stocking inventories. The duration of payback for commercial paper is generally less than nine months.
The reason companies prefer commercial paper to bank loans is that it usually carries a lower interest cost and often comes with fewer covenants, which are conditions that banks place on their borrowers to ensure that they retain the ability to pay back the debt. Since commercial paper is usually issued without any collateral, only the most credit-worthy companies are able to borrow money by using this instrument.
Analysts have largely welcomed the central bank’s move, citing the fact that it is likely to increase the amount of capital available to many corporations, often at a lower cost. It is particularly expected to help the energy sector.
“We believe that state-owned energy companies may also opt to issue commercial paper to support cash-strapped public sector entities,” said Muhammad Fawad Khan, analyst at KASB Securities, an investment bank, in a research note issued to clients on Tuesday.
The energy sector has been plagued by high amounts of debt to finance short-term liabilities. If companies within the sector are able to issue commercial paper at lower interest rates, they would be able to significantly reduce the cost of borrowing. Finance costs have been one of the biggest hurdles in the way of a return to profitability, particularly for refineries.
Published in The Express Tribune, June 30th, 2010.
In a move that is likely to increase the size of the short-term securities market, the State Bank of Pakistan has eased the rules on banks investing in commercial paper, according to a circular issued by the central bank on Monday.
Banks will no longer be restricted from investing in commercial paper issued by companies that have a debt ratio of higher than 60 per cent or a current ratio of lower than one. Both the debt ratio and the current ratio are metrics used by investors in fixed income securities to determine the likelihood of receiving interest income on their investments.
The debt ratio indicated what percentage of the company’s total assets has been financed by debt. It is a measure of whether or not the company has taken on too much debt. Another such measure is called the current ratio, which measures whether or not the company has enough liquid assets to meet its most immediate liabilities.
By removing the requirements for both of these ratios, the central bank has allowed banks to invest in riskier securities.
Commercial paper is an unsecured, short-term debt instrument issued by a corporation, typically for the financing of short-term liabilities such as accounts receivable and stocking inventories. The duration of payback for commercial paper is generally less than nine months.
The reason companies prefer commercial paper to bank loans is that it usually carries a lower interest cost and often comes with fewer covenants, which are conditions that banks place on their borrowers to ensure that they retain the ability to pay back the debt. Since commercial paper is usually issued without any collateral, only the most credit-worthy companies are able to borrow money by using this instrument.
Analysts have largely welcomed the central bank’s move, citing the fact that it is likely to increase the amount of capital available to many corporations, often at a lower cost. It is particularly expected to help the energy sector.
“We believe that state-owned energy companies may also opt to issue commercial paper to support cash-strapped public sector entities,” said Muhammad Fawad Khan, analyst at KASB Securities, an investment bank, in a research note issued to clients on Tuesday.
The energy sector has been plagued by high amounts of debt to finance short-term liabilities. If companies within the sector are able to issue commercial paper at lower interest rates, they would be able to significantly reduce the cost of borrowing. Finance costs have been one of the biggest hurdles in the way of a return to profitability, particularly for refineries.
Published in The Express Tribune, June 30th, 2010.