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Activity:  3 comments  142 views  last activity : 06 02 2011 16:23:35 +0000
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Every organization or banks main aim or motto is to maximize shareholders value. However shareholders were always concern about financial distress situation where they have to dilute their share to pay debt holders or govt. need to step in and use taxpayers’ money to bail outs banks/institutions.

We have faced these kind of similar situation during 2008 financial crisis where billion of $ i.e. tax payers money were used to bail out several banks. How to undo this kind of financial distress situation & avoid using tax payers’ money?

One answer to this question is...........

Please follow the link to my blog site to see the complete article..

http://deepakagrawalblog.wordpress.com/2011/06/02/how-to-avoid-using-tax-payers%e2%80%99-money-and-maintain-optimum-capital-structure-to-maximize-shareholders-value/

 
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3 comments on "Use COMTC Bond (Call Option Market Trigger Convertible) in Capital Structure to avoid bail outs & transfer of wealth from shareholders to bondholders during financial distress"
  Commented by  Mathew Cherian, Research Associate/Analyst, Western Michigan University    | 06 02 2011 16:23:35 +0000
Thanks, I feel I made a mistake. I feel the bonds mentioned are ok, since there will be secondry markets for those bonds and daily trading. Option price movements can be enhanced to ascertain the bond prices which I feel is an added advantage. Thanks for the clarification.
  Commented by  Deepak Agrawal, Consultant, Independent Consultant    | 06 02 2011 15:29:58 +0000
Mathew, thanx for your comment. 

After 2008 crisis several COCO bonds were issued same as I have mentioned an example of Credit Suisse but these bonds are not very successful because they triggers to regulatory ratio which is quite different from market condition. This makes these ratios more risky and they are not very popular.

"COMTAC bond" that I mentioned in my article is not yet introduced in the market. A research is going to know pros & cons of it. However these bonds seem good option to have in capital structure of banks or institution to cop with financial distress.

"COMTC" bonds are not triggered with regulatory ratio. These bonds consider current market situation and financial leverage of the bank/institutions that is the reason it converts at less than current market price. It gives an option for shareholders to buy-back these bonds at the same conversion price. This can be done by granting pre-emptive rights to shareholders to issue new share and pay-back the bondholder. It make bondholder feel safe as they know they get paid up during financial distress and makes the bond virtually risk free to cater to mass market. Shareholders can also avoids dilution without compromising on capital structure and makes bank well capitalized even during distress situation. 

Come to your first question of hoarding the bond, as I said these bonds are virtually risk free and it can be catered to mass market with 20 basis point above risk-free bonds. It won't be that costly to have it in your capital structure to avoid financial distress & being well capitalized. I think considering these bonds in capital structure of bank will itself increase the value of the company if it avoids wealth transfer from shareholders to bondholders at the time of financial distress. Market and investors will like it and will build the company's share price further.
  Commented by  Mathew Cherian, Research Associate/Analyst, Western Michigan University    | 06 02 2011 13:19:42 +0000
This type of bonds were being advocated close to the crisisn in 2008. Two things that need be clarified is 1)when they break the economic dictum of 'hoarding of money'. When someone issues a contingent bond then he will have to hoard it without being of any use and earn returns higher on capital to pay the bond holders. The existence of these bonds itself can catalize risk manouvers from banks and other equity institutions to raise cash for these bonds coupons.
2)If the trigers are fixed lower, then too the real underlying situation of high toxic states don't change, the only change in situation is adequate capital ratio to hood wink the regulator who also assumes less risk where the situation is more risky.
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