Credit rating important in corporate bonds

Sai Gon Investment has received many comments, ideas and suggestions from many experts after posting several articles on the issues of corporate bonds on 26 August 2019.  

Illustrative photo.

Illustrative photo.

This particular article expresses the opinions of Dr. Bui Quang Tin, Banking University, Ho Chi Minh City on the corporate bond issuance.

Banks will be impacted

We agree that the capital demand of corporates is huge and there are four ways for companies to raise the capital including through the stock market, credit institutions, insurance companies and investment funds. Over the last time, banks have been the main capital suppliers which met 70% of the total mid-and-long term capital demand of enterprises. However, the majority of banks’ funding resources is short-term. Luckily, the development of corporate bond market has improved strongly since 2019. Many companies have been moving from borrowing banks to issuing corporate bonds or issuing shares on stock market.

Recently, companies have found it hard to approach for bank loans given the credit tightening by the State Bank. However, this difficulty encourages companies to find other ways to raise capital. The financial market has never been developed like this year, creating a variety of channels for enterprises to raise funds. Currently, corporate bonds are considered one of the key routes for supplying mid-and-long term capital for corporations.

Some people question whether the strong growth of the corporate bond market and the high interest rate of corporate bonds will create risks for the market and for macro issues. In my opinion, of course it will create risks as most corporate bond issuances have targeted individual investors who seek high-interest investments. The issuing companies have to balance between interest rate cost and operating return and we see several companies have issued bonds at the interest rate of even 14%.

Currently, the size of corporate bond market is still small, hence, some bond issuances with interest rate of 12-14% will not impact the operations of banks. However, if the State Bank continues strictly managing the credit flow to stock and real estate markets, companies in these sectors will issue more bonds to raise funds and consequently the funding activities of banks, like deposits, will be impacted.

The enterprises, which issue bonds at the interest rate of 12-14%, must earn a return of at least 20% to show profits. However, this rate of return seems unachievable given the current difficult real estate market. We know the rule of high risk– high return, hence, the investment channels which offer investors a return of above 10% will face higher risk. Furthermore, investors find it hard to get information about the issuing companies, hence, investors who purchase corporate bonds, especially bonds of real estate companies, should consider carefully the transparency of financial statements, the legal status of the projects and a reasonable valuation.

The credit rating activities are very important in issuing bonds but most issuing companies have ignored this step.
Currently, most corporate bonds are issued through private placements, only 3-5% are issued to public investors. The buyers are mainly banks, brokerage companies, investment funds, and insurance companies. These investors have their own financial analysis team, hence, risk is quite measurable. However, individual investors should be careful as most individual investors are not able to appraise the issues related to corporate bond issuance.

Credit rating

Currently, corporate bonds are issuing and trading like a commodity on the primary and secondary markets. However, most buyers find it hard to update information on the issuing companies after the issuance is completed. Hence, the corporate bonds should be listed on security market to make it more transparent. And, to reach this target, the corporate bonds should be designed same as banking products, such as a variety of terms and different types of interest rates. The corporate bonds should be allowed to be transferred to stocks, or treated as collaterals at banks to get loans.

Furthermore, to be successful in listing the corporate bond on the security market, there should be more independent credit rating institutions to appraise the issuing companies before issuing. The corporate bond market has been growing strongly and the demand to raise funds of enterprises have been getting higher recently. But we still lack middle financial institutions to connect the issuers and the buyers. Currently, we have only one credit rating company. We need more of these to reduce the cost and increase the effectiveness and service quality. The credit rating activities are very important in issuing bonds but most issuing companies have ignored this step.

In foreign countries, bond issuing companies will be rated and the bonds will be issued like stocks, meaning they are evaluated. For example, in US, Standard and Poor will do the rating to see if this bond is rating at BB+ or BB-. Based on this rating result, the investors will decide if the interest rate is comparable with risks or not. However, in Vietnam, it is not easy to do this step.

Furthermore, in foreign countries, the transactions are done through banking account systems to determine transparency, tax responsibility, or to collect data to further analyze easily. Hence, there is plentiful information for credit rating. While in Vietnam, information of issuing companies is only stated on financial statements and reports which are sent to governments. If credit rating institutions only use this information for doing credit rating, it will not be completely accurate.

Dr. Bui Quang Tin

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