Hybrid bonds are a type of debt instrument that acts as a middle way between pure debt and risk capital representing the best of the two financial instruments. These are securities which involve a higher risk than normal bonds but they can also be more profitable. Compared to traditional bonds, they are less protected. If the company that issued them fails and goes into liquidation, the owners of hybrid bonds will be among the last to be compensated, if and when the other bondholders have received the amount due. In order to refund the holders of hybrid bonds, they are followed only by shareholders.
And even if you browse the company in dire straits, coupons of hybrid bonds can be postponed, curtailed or even left out. The duration of the hybrid bond is usually long but there are perpetual bonds which are coincident with the life of the company and in fact very similar to actions. The coupons of these instruments depend on the economic results achieved by the issuer. This peculiarity and the perpetuity of hybrid bonds are two aspects that make them very similar to equity instruments. However there are at least two important differences. The hybrids correspond to a predetermined coupon payment for the contract and not increased further with the distribution of a portion of the profits. In addition, these tools do not give the owners any voting rights at shareholders’ meetings.
The underwriters typical of hybrid bonds are institutional investors who benefit from the return on average higher than that of normal bonds. Moreover, institutional investors can count on professionals who well understand the specificity of these bonds in this very special cause which marked their participation in the firm’s risk. The benefit to the issuer is that these bonds, not being considered as a pure debt but by participating in some ways of venture capital, do not weigh the relationship between debt and equity as do the normal bonds. Therefore, the hybrid debt is a means of collecting funds for compelling issue shares or when senior bonds worsen the credit worthiness of the company while not issuing hybrid bonds. In fact, the company cannot afford to repay the installment of hybrid instruments without the interest of senior bondholders affected.