College of Commerce and Business Administration

University of Santo Tomas

España, Manila

AN EVALUATION ON THE IMPACT OF BONDS IN MOBILIZING

PRIVATE CAPITAL

A Thesis Presented to the

Department of Financial Management

In Partial Fulfillment of the Requirements

In Security Analysis 2

By:
Sia, Camille
Singh, Manjit Kaur J.
Te, Ma. Sophia Aira
Tayag, Renee

4FM1

September 2019
 Chapter 1
The Problem and Its Background

This chapter includes the introduction, theoretical framework, statement of the problem,
hypothesis, scope and limitation, conceptual framework, significance of the study and the definition
of terms used.

1.1 Background of the Study

Although the specific impetus for developing bond markets came mostly from the public
sector, borrowers in the private sector also need access to long-term finance, either directly from
capital markets or mediated by banks. Corporations need to finance fixed investment projects that
are expected to yield returns only in the long-term. It was the specific private demands for finance
that furthered the development of the Philippine bond market. The the issuance of corporate bonds
started in earnest only in the mid-2000s. As a result, degree of bond market development and the
formation of well-balanced financial system has yet to be completed. There has been insufficient
discussion on the purposes of market development, assessment of the present situation, and
challenges for further development, and this paper should complement the discussion on these
points. The growth potential of the Philippine corporate bond market is supported by improving
macroeconomic fundamentals. In the last quarter, despite the challenging political situation, the
domestic economy continued to grow amid a relatively low core inflation rate. Domestic interest
rates also continued to ease due to adequate liquidity in the system combined with some decline in
the risk premium on public debt arising from improvements in fiscal conditions. The peso continues
to strengthen against the US dollar on the back of sustained dollar remittances from overseas
Filipino workers and higher portfolio capital flows.

For its part, the national government has consolidated efforts to improve its fiscal position
by way of additional revenue collections, administrative reform measures and the implementation
of a revised and expanded value-added tax. On the corporate side, the financial performance of the
country’s major companies during the first half of 2017 was generally strong. In the banking sector,
key performance indicators show asset expansion, improvements in loan and asset quality, double-
digit growth in deposits, profitable operations, adequate liquidity and sufficient capitalization. The
Philippine fixed-income market over the past 5 years has concentrated its efforts in bringing itself
into an organized and orderly environment. The process does not end with the organization of the
market. Market actors and stakeholders consider the organization of the spot market as a necessary
step to create market structures that are envisioned to strengthen the spot market and make it more
robust.

At present, the Asian Development Bank (ADB) noted that “the size of the Philippines’
bond market is relatively small as compared to other markets in the region, while the number of
companies accessing the bond market is also limited. But moving forward, “the local currency bond
market has a potential to expand to support fund-raising activities of real sector, and finance
infrastructure projects of the government, particularly projects under the ‘Build, Build, Build’

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 program, which the government is expected to spend between P8-9 trillion from 2017-2022.
Philippine companies are expected to raise around P 200 billion ($3.8 billion) through bond issues
next year to fund expansion plans and debt payments. Corporate bond listings in the PDS Group’s
fixed income trading platform jumped nearly a quarter to a record-high P256.4 billion this year, led
by banks that tapped the bond market for fresh capital.

Banks, property and infrastructure firms could access more funds from the bond market
next year adding that next year’s forecast could be revisited in the second half. President Rodrigo
R. Duterte has pledged to usher in a “golden age of infrastructure” through a six-year, $180-billion
overhaul of ageing airports, roads, railways and bridges. To date, there are 50 companies that have
a combined 164 bond issues worth P1.05 trillion in the Philippines’ fixed income trading platform.
Although we have embarked on an ambitious program of capital market reform, we are aware that
much remains to be done to develop our domestic corporate bond market. We are mindful of the
lessons of the Asian financial crisis, and recognize, in particular, that a well-functioning bond
market reduces the vulnerability of the corporate sector and contributes to the overall financial
health of the country.

1.2 Significance of The Study

The findings of this study will be of significance to the academe, given that the role of a
research in an educational institution is substantial for its sustainability, relevance and
development. Educators who will come in contact with this study will gain additional insights on
the subject matter which can contribute to their teaching and professional growth. Students, on the
other hand, will be able to expand their knowledge and use the study as a tool to facilitate learning.

The study advocates industry-specific research and development which would eventually
foster economic growth. The study will benefit the industry in terms of knowledge-driven growth
based on innovation.

Researchers conducting a similar study may use this research paper as a viable source of
material reference in providing information— quantitatively and qualitatively— that may be of use
to the said researcher’s own analysis. The study will help future researchers who are conducting
research on topics contextually-related to the evaluation on the impact of bonds in mobilizing
private capital.

1.3 Statement of the Problem

The levels of short- and long-term commercial paper issuance (which by legal definition
includes corporate bonds) by Philippine companies has also exhibited an increasing trend recently.
However, it still remains diminutive compared to the well-established government bond market.

The stiff stockholder approval requirement for corporate bond financing stipulated by the
Corporation Code, as well as the unfavorable taxation environment, have dampened corporate bond

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issuances in the Philippines. There is an urgent need for the passage of important legislation that will
spur the development of the domestic bond market.

Because of high issuance costs, only top-tier corporations can issue bonds. Indeed, most Philippine
companies, including small and medium-sized enterprises, would rather obtain their funds via bank
loans than via the capital market. The corporate bond market in the Philippines is bilateral and
conducted OTC. Currently, there is no true picture of secondary market liquidity, and it is not clear
whether there are repo or derivatives markets. The lack of pricing and distribution information has
dampened the demand for corporate bonds.

Out of the numerous ways to raise capital, Bonds are one of the safest debt instruments to invest in
due to its guarantee to receive cash flows, several bonds are collateralized and are less volatile compared
to stocks. During the last three months of the year 2018 the Philippines recorded to the fastest growing
bond market in the Emerging East Asia. Despite these developments and security, the current
unfavorable institutional and regulatory policies still pose a threat on the further growth of the
Philippine Bond Market. This study addresses issues that are surrounding the inefficiency of the bond
market in the Philippines. and evaluate its performance in creating capital for companies to finance its
business activities and long-term projects. In addition, this paper aims to discuss the challenges in the
corporate bond market and shows the future outlook of the investors.
This study will seek to answer the following questions:
1. How does the heavily regulated and disorganized system of the Philippine corporate bond market
correlate to the mobilizing of private capital?
2. How reliant and effective is the corporate bond market in raising capital for corporations to finance
its long-term projects?
3. What is the outlook of the investors on the Philippine corporate bond market and how important
are regulations and policies in spurring development of the domestic bond market?

1.4 Hypothesis

The hypothesis will be raised in the study and will be tested at .05 level of significance.

H0: The current institutional and regulatory policies have no effect on the development of the
Philippine Corporate Bond Market.

H1: The current institutional and regulatory policies have an effect on the development of the
Philippine Corporate Bond Market.

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 1.5 Conceptual Framework

Figure 1. Conceptual Framework of Private Capital Mobilization

The conceptual framework (i.e. the Theory of Change) for this evaluation (represented in Figure 1)
shows the logical connections between the private capital available for investments, the mobilization
activities supported by the World Bank Group and financing flow commitments to the development projects
The Bank Group engages with investors, commercial banks and other commercial capital sources (e.g.
sovereign wealth funds, insurance industry) through its mobilization approaches (direct and indirect) and
by leveraging its resources, both human and financial capital. Several immediate outcomes may be observed
because of the above activities such as: (a) an increase in access to capital; and/or (b) to an increase in
bankable projects by offering a better risk/return profile or diversification; and (c) knowledge for first time
investors in emerging markets and developing economies. They are characterized by the underlying project
profile, volumes and tenures of the capital deployed. Further, mobilization activities can influence project
preparation activities and generate a pipeline of projects that may not have been possible otherwise (i.e.
without private capital).

The new financing sources may provide the much-needed risk capital and/or patient capital to
reduce the dependency on public capital. Bank Group’s mobilization approaches and related activities may
have macro fiscal implications for client countries’ if the financing flows are related to government or sub-
sovereign payment obligations, and lead to demonstration effects. Additional sources of financing may

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emerge from DFIs, project sponsors and other co-financing entities further supporting project expansion
plans. Different approaches mobilize different types of private capital. Hence the quality of mobilization
(e.g. equity, strategic) will also be part of the evaluation together with the additionality of the WBG in
attracting private capital. Finally, the effectiveness of private capital mobilization approaches depends also
on external factors – such as country credit limits, macro conditions, and regulatory environment. These
factors will be considered in the analysis of the effectiveness in mobilizing capital.

1.6 Theoretical Framework

Capital structure is defined as the manner by which a company funds its operations and finance
its assets through some combination of equity, debt or hybrid securities. The significance of capital
structure should not be disregarded as it has a direct and crucial affect on the overall survival of the
business entity. It is also important to for the company to make the right decision in searching for the
optimal combination of financing, as it is heavily analyzed when evaluating the risk in investing in that
particular company.

Nevertheless, an abundance of research has been done on the factors affecting the capital
structure decisions that the firm will make. It is commonly known that the choice between equity and
debt financing is dependent on firm-specific characteristics. In this research, debt financing –
specifically bonds – will be given a primary focus on.

The researchers have explored and examined theories to strengthen the validity of this study.
First is the pecking order theory. The theory was based on asymmetric information problems. The
management of a firm knows more about the company’s prospects as compared to the individuals
external to the firm such as creditors (debtholders, bondholders) and investors (shareholders). Hence,
in order to compensate the risk that arises from asymmetric information, external investors are entitled
to demand a higher return. Private firms expose themselves to this risk when investing in bonds, they
are expecting a higher return.

In addition to that, the segmented markets theory was also given importance. The theory
tackles on the diversity of the market and how each respective income would cater to the needs of the
heterogenous agent. This need for income will become the basis for the on buying which bond duration.

Lastly, the trade-off theory. It refers to the idea of determining a company’s financing mix –
how much debt and how much equity should it take, in consideration of the costs and benefits of the
particular combination brings. Evidently, managers will increase debt to a point at which the marginal
value of costs and benefits of adding debt are exactly equal because this is the capital structure that
maximizes the firm value. Bonds are aligned the said theory to the extent of it being considered as a
debt security.

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1.7 Scope and Limitation

This study was conducted to review and analyze the ramifications of bonds in mobilizing
private capital in the Philippines through reviewing online articles, journals, dissertations and books
that have all come from a reliable source. The focal point duration will be during the years 2015 until
its forecasted effects on the year 2020.

The limitations of this study include the years that the study will be focused on for the
information to remain relevant and up to date. Bonds are going to be the only debt instrument to be
tackled in this paper. In addition, countries asides from the Philippines will not be put into consideration
for the study.

The researchers do not aim to negatively criticize the Philippines on how it handles the bond
market. Instead, the researchers would like to pinpoint the exact effectiveness of the Philippine bond
market to the Private Capital and in what aspects the Philippine government could further improve on
to entice more investors.

1.8 Definition of Terms

To further understand and clarify the terms used in the study, the following are hereby defined:

 Asymmetric Information
A situation wherein one parties holds more information than the other.
 Bonds
This is a debt instrument used by the Private Investors to finance their business and/or their long-
term projects.
 Mobilizing
An action wherein one plans and organizes for the movement of the private capital.

 Private Capital
The funds that come from individual or private investors that are not publicly listed. These
individuals or private investors are not affected by government regulations and trade on a one-on-
one basis between the investor and the business.

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1.9 Bibliography

1. Allen, F and D Gale (2000): Comparing Financial Systems, MIT Press, Cambridge, Massachusetts.

2. APEC (1999): Compendium of sound practices: guidelines to facilitate the development of domestic
bond markets in APEC member economies, September.

3. CFI (N.D): Pecking Order Theory. Retrieved from

<https://corporatefinanceinstitute.com/resources/knowledge/finance/pecking-
ordertheory/?fbclid=IwAR2e2otRXNGzfsvEg9fOYpmjAGdOkWXeZiKGfhbPwNtAaxMVykWR4YRSP
NM>

4. CFI (N.D): Segmented Markets Theory. Retrieved from

<https://corporatefinanceinstitute.com/resources/knowledge/trading-
investing/segmentedmarketstheory/?fbclid=IwAR0SHzXPHPMeS9g2CPu01krrD9Qjk0_lQs71aOW1g58
fK1oXYn3S7vUAsjA >

5. Cheriyan, N. (March 24, 2013). Theories in Financial Management. Retrieved from

<https://thecommercepedia.blogspot.com/2013/03/theories-in-
financialmanagement.html?fbclid=IwAR3BINaMVTrHDBCUSzyPuUBCy9BbJUgTYiGf7ZXXaKjxgIX
MgfQb-9s8tA>

6. Herring, R and N Chatusripitak (2001): “The case of the missing market: the bond market and why it
matters for financial development”, Wharton Financial Institutions Center Working Paper, University of
Pennsylvania. (An earlier version appeared as ADB Institute working paper, no 11, July 2000.)

7. Lopez, M., T. (March 22, 2019). PHL bond market growth fastest in E. Asia. Retrieved from
<https://www.bworldonline.com/phl-bond-market-growth-fastest-in-e-asia/>

8. ADB. AsianBondsOnline. http://asianbondsonline.adb.org/. ———. 2011a. Asia Bond Monitor. Manila.

September. ———. 2011b. Asia Bond Monitor. Manila. November. Bank for International Settlements.
2011. Report on Asset Securitization Incentives. The Joint Forum, Basel Committee on Banking
Supervision. http://www.bis.org/ publ/joint26.pdf