Question

How do you think companies decide which type of private debt they will use? Do they have a choice? Do managers consider what is being offered by financial institutions? Conversely, what do financial institutions look for in firms? What considerations are taken into account by both sides? What kinds of negotiations do you think are involved?

Answer 1

How do you think companies decide which type of private debt they will use? Do they have a choice? Do managers consider what is being offered by financial institutions?

Companies decide which type of debt they will use on the basis of following:

• Interest rate offered
• How restrictive the covenants are?
• Severity of even of default.
• Flexibility in debt servicing: principal moratorium period
• Ability to call back the debt

Companies do have a choice. A company with impeccable past and track record and credit score can get debt offers from multiple institutions. So they do have a choice.

Yes, the managers do consider what is being offered by the financial institutions. Managers can't work in isolation. The provider and receiver of the capital have to come together, discuss, negotiate and close the transaction. Either party not considering what the other party has to offer, will not lead any fruitful outcome.

Conversely, what do financial institutions look for in firms?

• Ability to service the debt
• Ability to pay the interest and principal
• Credit worthiness
• Good credit score
• Financial health and financial ratios
• Security package
• Security cover

What considerations are taken into account by both sides? What kinds of negotiations do you think are involved?

• Flexibility of the either party
• Transparency in sharing information
• Ability to work together and on the long term
• Track record of each other

Negotiations are involved over:

• Interest rate
• Penal interest
• Events of default
• Consequences of events of default
• Positive and negative covenants
• Repayment schedule