Report

On
International Finance Management

Submitted To: - Submitted By:-

Prof. M. M. Mehta Girish Harsha
PGDBA- II
Roll No. 16

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Long Term Borrowing in
Global Capital Market
Introduction
The financial revolution has been characterised by both a
tremendous quantitative expansion and an unprecedented
qualitative transformation in the instruments and regulatory
structures. Global financial markets area relatively a new and
recent phenomenon, national market were largely isolated from
each other and financial intermediaries in each country operated
principally in that country. The foreign exchange market and
the Eurocurrency and Eurobond markets based in London were
the only markets that were truly global in their operations.
Financial markets everywhere serve to facilitate transfer of
resources from surplus units (savers) to deficit units
(borrowers), the former attempting to maximize the return on
their savings while the latter looking to minimize their
borrowing costs. An efficient financial market thus achieves an
optimal allocation of surplus funds between alternatives uses;
financial markets also offer the savers a wide range of
instruments enabling them to diversify their portfolios.
Growing imbalance between savings and investment within
individual countries, reflected in their current account balances,
has necessitated massive cross-border financial flows i.e. the
massive surpluses of the OPEC had to be recycled, fed back
into the economies of oil importing nations. The other motive
force is the increasing preference on the part of investors for
international diversification of their asset portfolios.
Exchange controls, functional and geographical restrictions on
financial institutions, restrictions on the kind of securities they
can issue and hold in their portfolios, interest rate ceilings and
withholding taxes, barriers to foreign entities accessing national
markets as borrowers and lenders and to foreign financial
intermediaries offering various types of financial services have
been already dismantled or are being gradually eased away.
Global Bond Market
• Fixed rate
• Two types
 Foreign
o Sold outside borrower’s country and denominated
by the currency of the country where issued
o Desire to lower cost of capital
 Eurobonds
o Underwritten by a bank syndicate and placed in
countries other than the one in whose currency
the bond is denominated
o Issued by multinational corporations, large
domestic corporations, and international
institutions
o Not offered in capital market, or to residents, of
the country whose currency they are denominated

Eurocurrency Market
The core of the international money market is Eurocurrency
market. A Eurocurrency is time deposits of money in
international bank locate in a country different from the country
that issued the currency. For example, Eurodollars are deposits
of U.S. dollars in banks located outside of United States. Since
the dollar deposits outside the U.S. have been called
Eurodollars and banks accepting Eurocurrency deposits have
been called Eurobanks. The Eurocurrency market is an external
banking system that runs parallel to the domestic banking of the
country that issued the currency. Both banking systems seek
deposits and make loans to customers from the deposited funds.
The Eurocurrency market operates at the interbank and
wholesale level. The rate charged by banks with excess funds is

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referred to as the interbank offered rate; they will accept
interbank deposits at the interbank bid rate. The London
Interbank Offered Rate (LIBOR) is the reference rate in London
for Eurocurrency deposits.

Eurocredits
Eurocredits are short-to medium-term loans of Eurocurrency
extended by Euorbanks to corporations, sovereign governments,
nonprime banks, or international organizations. The loans are
denominated in currencies other than the home currency of the
Eurobank, because these loans are frequently too large for a
single bank to handle, Eurobanks will band together to form a
bank leading syndicate to share the risk. The credit risk on these
loans is greater than on loan to other banks in the interbank
market. On Eurocredits originating in London the base lending
rate is LIBOR. The lending rate on these credits is stated as
LIBOR+X%, where X is lending margin charged depending
upon the creditworthiness of the borrower.

Euronotes
These are short-term notes underwritten by a group of
international investment or commercial banks called a ‘facility’.
A client- borrower makes an agreement with a facility to issue
Euronotes in its own name for a period of time, generally 3 to
10 years. These are sold at a discount from face value and pay
back the full face value at maturity (3 to 6 months).

Euro-Medium-Term Notes
Euro MTNs are fixed-rate notes issued by a corporation with
maturities ranging from less than a year to about 10years. It has
a fixed maturity and pay coupon interest on periodic dates.

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Euro-MTN issue is partially sold on a continuous basis through
an issuance facility that allows the borrower to obtain funds
only as needed on flexible basis.
Eurocommercial Paper
It is like domestic commercial paper, is an unsecured short-term
promissory note issued by a corporation or a bank and placed
directly with the investment public through a dealer. Maturities
range from one to six months.

Global Equity Market

No equity market in the sense of the international currency and
bond markets
o Countries have their own markets to trade corporate
stocks.
o Many open to foreign investors
Two trends
o Internationalization of corporate ownership
o Companies broadening stock ownership by listing stock
on foreign exchanges
o Tap into larger pool of funds for investment
o Lowering capital costs
o Facilitate future acquisitions
o Stock and stock options for local employees,
suppliers and bankers
o Increasing, firms from developing countries are taking
advantage of the opportunity to access these funds

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The Major Market Segments
The funding avenues potentially open to a borrower in the
global capital markets can be categorised as follows
o Bonds
o Straight Bonds
o Floating Rate Notes (FRNs)
o Zero-coupon and deep discount bonds
o Bonds with a variety of option features embedded in them
Bond Markets
o A bond is a debt security issued by the borrower,
purchased by the investor, usually through the
intermediation of a group of underwriters
o Straight Bond
o It is a debt instrument with a fixed maturity period
o Callable Bond
o It can be redeemed by the issuer, at issuer’s choice
o Puttable bond
o Opposite of callable bond
o It allows the investor to sell it back to the issuer
prior to maturity
o Sinking Fund Bond
o Instead of redeeming the entire issue at maturity,
the issuer would redeem a fraction of the issue
each year so that only a small amount remains to
be redeemed at maturity
o FRN
o Variable

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 o The interest rate payable for the next six months is
set with reference to a market index such as
LIBOR
o Zero Coupon Bond
o Similar to the cumulative deposit schemes
o No interim interest payments
o Convertible Bond
o Can be exchanged for equity shares either of the
issuing company or some other company
o Warrants
o An option sold with a bond which gives the holder
the right to purchase a financial asset at a stated
price
o It may be permanently attached to the bond or
detachable and separately tradable
A large number of other variants have been brought to the
market
Eurobond Market: Unregistered bearer bonds
Foreign Bonds: Non-resident issues in domestic markets
o Yankee Bonds: Public Issues in the US markets; listed,
registered. Strictly regulated.
o Samurai Bonds : Public Issues in the Japanese Market
o Shibosai Bonds, Shogun Bonds and Geisha Bonds
(Private placements in the Japanese market)
o Swiss and German Bonds
o Bulldog Bond (Public issues in UK)
o Rembrandt Bonds (Holland)

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Syndicated Credits
o A traditional Eurosyndicated loan is usually a floating rate
loan with fixed maturity, a fixed drawdown period and a
specified repayment schedule
o Lead managers and Agent bank
o A typical Euro credit would have maturity between five
and 10 years, amortisation in semiannual instalments, and
interest rate reset every three or six months with reference
to LIBOR
o Club Loans: Unpublicised, private arrangements
o Standby facility
o The cost of a loan consists of interest and a number of
fees - management fees, participation fees, agency fees
and underwriting fees when the loan is underwritten by a
bank of a group of banks
o Apart from the Euromarkets, syndicated credits can be
arranged in some of the national capital markets too

Medium Term Notes (MTNs)

o Initially conceived as instruments to fill the maturity gap
between short-term money market instruments like
commercial paper and long-term instruments like bonds,
these subsequently evolved into very flexible borrowing
instruments
o The main advantage of borrowing via an MTN or EMTN
programme is its flexibility and much less time-
consuming formalities of documentation compared to a
bond issue

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 o The market is accessible only to issuers with good credit
rating

Medium-term credit
The credits differ as to the form of granting of money: either
one-time transfer of money or a revolving credit line. The
prevailing method in the credit market is the medium-term
credit on a revolving basis at floating interest rate. The rate
changes every time the credit is renewed and it is adjusted in
accord with the market conditions. For this reason the term of
eurocredits granted at a fixed rate (including the revolving
credits) usually does not exceed a year. The main principles of
international crediting are based on the following: to determine
the volumes of prospective credits, to substantiate the purposes
which these credits are intended for, to determine the terms of
the credits, to determine the risks connected with the credits.
As distinct from the home financial market, the following
additional risks exist in the international market:
- Political (specific for a certain country) risk
- exchange risk, (this kind of risk is also present in the national
market in case a borrower obtains a credit in a foreign currency)
- Interest risk connected with change in the course of time of
the difference between the rates under the credit in the internal
and international market.
In order to eliminate the exchange risk, the practice of
concluding forward contracts for currency is used in the
international market of credits. To decrease the political risks
obligatory rules have been laid down for the borrowers who
come to the international market, among which is the obtaining
an international credit rating. To eliminate the interest risk the
revolving credit and stand-by credit contract types are used.

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In a case of stand-by a bank binds himself to grant the borrower
a stipulated sum for the whole contract term of use, which is
divided into short periods (3, 6, 9, 12 months). For each of them
a floating interest rate is fixed, which is revised with allowance
for LIBOR dynamics in the market of Euro-currencies. This
enables to grant medium- and long-term credits, using short-
term resources. In case of revolving credit, Eurocredits are
issued on different conditions.
Committed Underwritten Facilities
The basic structure under this is the Note Issuance Facility
(NIF), these instruments were popular for a while before
introduction of risk-based capital adequacy norms rendered
them unattractive for banks
Money Market Instruments
These are short-term borrowing instruments and include
commercial paper, certificates of deposit and bankers'
acceptances among others. In addition to these, export related
credit mechanisms such as buyers and suppliers credits, general
purpose line of credit, forfeiting are other sources of medium-
to-long term funding.
NIF and Related Facilities
o Highly rated borrowers decided to short circuit the banks
and raise financing directly from investors by issuing their
own paper
o A Note Issue Facility (NIF) is a medium-term legally
binding commitment under which a borrower can issue
short-term paper in its own name, but where underwriting
banks are committed either to purchase any notes which
the borrower is unable to sell, or to provide standing credit
o If at any roll-over the borrower is unable to place the
entire issue with the market, the underwriting banks either
take up the remainder or provide a short-term loan and the

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 arrangement under which the banks provide credit to
make up the shortfall is known as a Revolving
Underwriting Facility (RUF)

Project Finance
o The central idea in project financing is to arrange a
financing package which will permit the transfer or
sharing of various risks among several parties including
project promoters with a no recourse or limited recourse
feature
o The lenders evaluate the project as an independent entity
and have claims on the cash flows generated by the
project for their interest payments and principal
repayments
o The lenders may require guarantees
o In some circumstances, third party guarantees can be
arranged
o The sources of equity and debt finance for projects have
been numerous
o An innovation in project finance is the BOT device which
stands for Build, Own and Transfer (some times also
called BOOT - Build, Own, Operate and Transfer)

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The International Financing Decision
o The issue of the optimal capital structure and
subsequently the optimal mix of funding instruments is
one of the key strategic decisions for a corporation
o The actual implementation of the selected funding
programme involves several other considerations such as
satisfying all the regulatory requirements, choosing the
right timing and pricing of the issue, effective marketing
of the issue and so forth

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The critical dimensions of IFD for a firm to chose
funding avenues
o Interest rate basis : Mix of fixed rate and floating
rate debt
o Maturity : The appropriate maturity composition of
debt
o Currency composition of debt
o Which market segments should be tapped

In evaluating a particular borrowing alternative the

following parameters have to be examined under
alternative scenarios
o The all-in cost of a particular funding instrument
o Interest rate and currency exposure arising from
using a particular financing vehicle
o The rate of exchange at time t is denoted St
expressed as units of home currency per unit of
foreign currency
o The real cost of this loan consists of three
components viz. the nominal interest, appreciation
of the foreign currency and domestic inflation is R =
I+ŝ-π
o ŝ denotes proportionate change in the spot rate and π
is the domestic rate of inflation
The variance of the real cost therefore is
o Var(R) = Var(ŝ) + Var (π) - 2Cov (ŝ, π)
o To compare the variances of real costs, the
covariance term is important

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o Between two currencies, if the variance of both is
nearly equal, the one which follow PPP with the
home currency more closely will have a lower
variance of real cost of borrowing

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