251NOTESCh10

251NOTESCh10 - Bus 251 D1 Fall 09-3 Chapter 10 Lecture...

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Bus 251 D1 Fall 09-3 Chapter 10 Lecture Notes Anne Macdonald Gentlemen prefer bonds (Andrew Mellon) If you owe the bank $100 that’s your problem. If you owe the bank $100 million that’s the bank’s problem. (JP Getty) Anyone who lives within their means suffers from a lack of imagination. (Oscar Wilde) 1
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LONG-TERM LIABILITIES See the scanned article ‘251ArticleCh10’ “Teck to issue $1 billion US in bonds” , The Vancouver Sun, September 24, 2005, page I2, I8. Teck president-CEO, Don Lindsay quoted: “To have a company operate with a large cash balance and no debt – that’s very inefficient for the shareholders … We have a highly inefficient balance sheet because we have cash building up …” Teck Cominco announces plans to borrow $1 billion US, by issuing bonds, using the money to: Retire old debt Invest in a new oil sands project in Alberta The new borrowings will be: $300 US million of 10 year bonds at 5.375% interest $700 US million of 30 year bonds at 6.125% interest The new oil sands project will cost approximately $875 million, and is expected to operate for 40 years: “This debt … provides a significant amount of the capital we need for a 40-year asset, with 30-year money, which is what companies generally want to do – match term of asset to term of liabilities.”, Teck Investment Relations Manager, Greg Waller 2
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Along with equity, long-term liabilities are a source of financing of assets. Why borrow long term? Don’t have enough cash on hand to meet requirements To buy non-current assets. Why? [Non-current assets generate profits and cash flow for many years in the future it makes sense to spread the cash payment requirements over the same time period] Long-term funds can be borrowed from: Banks : mortgage, loan agreements Commercial paper market: your unsecured promissory note sold to another company. That is, you borrow from other companies . Bond market: your ‘Bonds Payable’ are sold by an investment banker to the public (or by ‘private placement’ sold to a limited group of people/companies). You bonds payable may also be publicly traded on a bond market (bought and resold by investors). Effectively, you are borrowing from the public . In all three cases, the borrowing company receives cash now, and makes a promise to repay the amount borrowed (plus interest) at a point in the future. 3
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RISKS OF BORROWING LONG-TERM - most of these risks also exist for short-term liabilities, but last longer when the debt is long-term! Long-term loan arrangements are difficult to change can reduce flexibility in making operating decisions. E.g. Borrowed money in 1985 at a fixed interest rate of 12%, today, your bank would charge you 6% on any new loans. But, will the bank allow you to renegotiate
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251NOTESCh10 - Bus 251 D1 Fall 09-3 Chapter 10 Lecture...

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