Interest Rate Risk

P&G
 What is Interest Rate Risk?
• Interest rate risk exists in an interest-bearing asset which
is typically a bond or a fixed-income
• It is an impact on an institution’s financial condition if it is
exposed to negative movements in interest rates.
• This risk can either be translated as an increase of interest
payments that it has to make against borrowed funds or a
reduction in income that it receives from invested funds.
• Interest rate risk is the potential that a change in overall
interest rates will reduce the value of a bond or other
fixed-rate investment.
 What is leverage and its risk?
• Leverage is basically using borrowed capital as a funding
source when investing to expand the firm's asset and
generate returns on risk capital.
• Where financial leverage may result in enhanced earnings for
a company, it may also result in disproportionate losses.
Losses may occur when the interest expense payments for the
asset overwhelm the borrower because the returns from the
asset are not sufficient.
• It may occur when the asset declines in value or interest rates
rise to unmanageable levels
 Interest rate risk due to leveraging
• Leverage risk is related to uncertain changes in
companies long-term debt due to change in interest
rate.
• leverage has a positive impact on equity when rates
of return are larger than the interest rate, and a
negative impact when rates of return are smaller than
the interest rate.
• P&G uses interest rate swaps to hedge their exposures to
interest rate movement on underlying debt obligations.
• The long-term weighted average interest rate
is the aggregate rate of interest paid on all of
long-term debts
• P&G’s long term weighted average interest
rate has declined from 2015 to 2019.
 Interest Rate Coverage Ratio
• The Interest Coverage Ratio (ICR) is used to determine how
well a company can pay the interest on its outstanding debts.
• It is commonly used by lenders, creditors, and investors to
determine the riskiness of lending capital to a company.
• Procter & Gamble Co.’s interest coverage ratio declined from
2017 to 2018 and from 2018 to 2019.