Monday, June 11, 2012

A Closer Look at SMIC's 15 Billion Peso Bond Issue


Dear Investor Juan,

I am Manny, an OFW from Qatar, one of your new readers and I admire your willingness to share your knowledge. I'm also new to investments and I would like to request for your opinion and analysis and explanation of an article I read in Philippine Daily Inquirer about SMIC's bond issue found here. I like to know what phrases like "scripless form at 100 percent of face value," "indicative interest rate will be a maximum of 6.2115 percent a year for the seven-year bonds," and others mean.

I hope you can find time to explain these, not just to me, but also to all your readers.

Thank You.


Dear Manny,

Thanks! I'm glad that you find the website helpful and interesting. And thank you for sharing this information with us.

I've already discussed bonds to some degree of detail in prior posts (i.e., "The Ins and Outs of Bonds" and "Pricing Bonds"), but this issue presents a good opportunity for me to discuss some things that I haven't talked about yet and emphasize those that I already have. So let's go through these details one by one.

1. "It will be SMIC’s first time to offer retail bonds since 2009 when it issued P10 billion worth of bonds."

Corporate bonds are typically available in denominations that are beyond the reach of individual investors, running in the neighborhood of hundreds of thousands of pesos. Retail bonds, on the other hand, are more affordable since they are available in denominations of 10,000 pesos or so.

2. Based on documents from the SEC, SMIC’s bonds will have a term of seven and 10 years with a base offering size of P10 billion and an option to increase by P5 billion in case of oversubscription.

Term (or tenor) of a bond is the number of years from the issue until the issuer (or borrower)--in this case SMIC--has to pay back the face value or the borrowed amount (from the point of view of the investor, the invested amount) to the investor/lender.

3. The proposed bonds due 2019 and 2022 will be issued in scripless form at 100 percent of face value. 

For several years now, publicly-traded securities like bonds and stocks have been issued in "scripless" form, which means that investors are not issued paper certificates of ownership anymore; instead, ownership is just recorded (electronically) on the "books" of the broker.

4. Prior to final redemption, SMIC will have a one-time option but will not be obligated to redeem the bonds in whole. The redemption option is open on the 10th interest payment of the seven-year bonds and on the 14th interest payment for the 10-year bonds.

Just like this East West Bank issue I discussed two years ago, these SMIC retail bonds are "callable," or include a "call option." This option gives the issuer (SMIC) the right but not the obligation to buy back the bonds at a certain price (face value + a certain premium) for a specified period of time (from the 10th interest payment for the seven year bonds and from the 14th interest payment for the 10-year bonds). The issuer would benefit from exercising this right if and when interest rates fall within the specified period, since it will then be able to buy back the bonds at a price lower than the prevailing market price.

5. Indicative interest rate will be a maximum of 6.2115 percent a year for the seven-year bonds based on PDST-F benchmark as of May 21 and 6.975 percent a year for the 10-year bonds. 

The indicative interest rate is the return you will most likely earn per year, before taxes, if you invest in the bonds and hold them to maturity. You will know the actual interest rate when you actually buy the bonds.

There you go. I hope you find my answers helpful. To help you decide whether to buy these bonds or not, you might want to take a look at my past posts about other investment alternatives and risk and return. Good luck!

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