Hybrid Debt Securities

What are Hybrid Securities?

A broad classification for a group of securities, used by ASX listed companies to raise money, that combine both debt and equity characteristics.

Hybrid securities pay a predictable (fixed or floating) rate of return or dividend until a certain date. At that date the holder has a number of options including converting the securities into the underlying share.

Therefore unlike a share the holder has a 'known' cash flow, and, unlike a fixed interest security, there is an option to convert to the underlying equity. More common examples include convertible and converting preference shares.

It is important to note that a Hybrid security is structured differently and while the price of some securities behave more like fixed interest securities, others behave more like the underlying shares into which they convert .

Defining terms

 

Returns

Predictable dividend, often franked therefore possible tax advantage to the holder

 

Capital price

A) Price moves in line with share price (fixed conversion terms e.g. 1 hybrid convert to 1 share)

                                    or

B) Bond like, price does not move in line with share price (variable conversion terms, face value (usually $100) convert to $100 worth of shares).

 

Discount

A discount is usually offered to the share price at the time of conversion.

 

Reset/Resettable

At the reset date the terms of the security (dividend rate, next reset date) may change. The holder can elect to accept the new reset terms or convert into shares.

 

Cumulative/Non-cumulative

This refers to the event of missed dividend payments. Cumulative: missed dividend payments are added to the next dividend payment. 

Non-cumulative: missed dividend payments are forgone.

 

Redeemable/Non-redeemable

Redeemable: At certain times the holder may have the option to sell the securities back to the company at the face value/issue price.

Non-redeemable: The company is not offering to buy the securities back.

 

Latest style of Hybrids

Most of the hybrid securities issued recently are very " Bond " like. Although each has individual characteristics, typically:

  • they have a set dividend rate for a 5 year period ('reset' period)
  • are issued at $100
  • the holder has the ability to take the new 'reset' terms, redeem the face value or convert
  • the holder can convert into the shares at a discount to the current ordinary share price e.g. 5%
  • the conversion ratio is into a dollar amount of shares. e.g. $100 worth of the underlying equity

Note: This 'variable' conversion ratio means the price of these hybrids does not react to the movement in the share price, and they therefore behave in a similar way to fixed interest securities (this lack of co-relation with the underlying shares is sometime referred to as a zero delta).

Traditional Hybrids

Traditional hybrids were usually structured in a way that leads the securities to react to the underlying share price. Although each has individual characteristics, typically:

  • they have a set dividend until conversion
  • the conversion might occur at a number of dates
  • they are usually issued at a similar price to the underlying share
  • they convert at a set ratio. e.g. 1 hybrid converts into 1 underlying share

Note: This fixed conversion ratio means the price of these hybrids react to the movement in the underlying share price. (The extent of the co-relation is sometimes referred to as a delta, and these typically have a delta of between 0.5 and 1)

In addition some of these securities include minimum and maximum conversion terms, effectively giving the holder a put and call option if the share price reaches a certain prices.