Why high yield issuers call their bonds | Insight Investment

Issuers call bonds for many reasons, many of which are easy to understand. These include:

1. a change in the business model;
   
   
2. de-leveraging, using cash generation or asset sales to reduce the issuing company’s debt burden;
   
   
3. more attractive financing becomes available elsewhere;
   
   
4. a cheaper coupon is available on new debt;
   
   
5. a change of control; and
   
   
6. refinancing debt as major business milestones are achieved.

The last of these is the most common reason for debt to be called early but is also the least understood by investors. Why do high yield issuers call debt early, paying a premium, and even doing so to refinance at higher interest rates, when they could simply leave the bond to run to its final maturity?

Generally, a high yield company is seeking to make a return on equity well in excess of the underlying rate of economic growth over a five-to-seven-year time horizon. The aim is generally to create a larger, more profitable company that can then be sold at the end of this period, achieving a profit for the equity owner.

There are many ways that a business can seek to achieve high rates of growth. Growth can come from expanding existing operations; for example, opening new stores or production facilities, buying a competitor or assets from a competitor to accelerate the expansion, moving organically into a new fast-growing geography, or a combination of these things.

As key business milestones are reached along this path, it makes sense for management to refinance, locking in funding for the next stage of the journey. Ultimately the cost of refinancing is a cost worth paying to achieve long-term goals.