Types of corporate bonds available in the capital market are as follows:
1. Mortgage Bonds
A mortgage bond is a secured bond issued by a company. With a mortgage bond, the company pledges specific assets as a collateral for the bond. The asset securing the bond is described in detail in mortgage deed, which is legal document giving the bondholder a lien on a asset. If the company defaults on any of the provision in the bond indenture, bondholders have the power to take control over the asset and sell it to satisfy their claims. If the proceeds are less than the amount of the bond issue outstanding, the bondholders become general creditors for the residual amount.
A company can use a specific asset as security for more than one bond issue. New bond secured by the asset already used as a collateral is called second mortgage or junior mortgage bond. In the event of foreclosure, the first mortgage bondholders must be paid the full amount owed them before satisfying second mortgage bondholders' claim.
A debenture is an unsecured bond issued by a company without providing any specific asset as collateral. Therefore, debenture holders are general creditors of the firm. Investors consider company's cash flow and assets which are not used as collateral before purchasing the debentures issued by the firm. Hence, only well-established and creditworthy companies are able to issue debentures.
Debentures may have call provision, which gives the company right to retire the debenture before maturity. When market decreases substantially companies call the existing debentures and issue new debentures. This process is called refunding decision. The call provision increases the risk to the investors.
3. Subordinated Debenture
Subordinated debentures are inferior debentures. In the event of liquidation, subordinated debentures holders have claim on assets only after senior debenture holders' claim is satisfied. In terms of claim, subordinated debenture is ranked lower to all debts except income bond and preferred stocks and common stocks. Therefore, a subordinated debenture issue provides significantly higher yield than does an ordinary debenture issue in order to attract investors.
4. Income Bond
An income bond pays interest only if the earnings of the firm are sufficient to meet the interest obligation. When a company fails to meet current obligation of interest, income bondholders cannot take the company into bankruptcy. Income bonds may have cumulative features, which means that unpaid interest in a particular year accumulates. If company earns profit in the subsequent year, it will have to pay the cumulative interest to the extent that earnings permit. From investor's stand point. these bonds are riskier than regular bonds but they provide higher return to investors.
5. Convertible Bond
A bond, which can be converted into specific number of common stock within specified future date at investor's desire is known as convertible bond. Theoretically, convertible bond also may be convertible into specified number of preferred stock. Conversion feature of bond attracts the potential investors. It also helps to reduce coupon interest and flotation costs. However, investors yield on convertible may be higher than that of ordinary bond,because of capital gain.
6. Callable And Putable Bond
Bond may have call provision. Call provision gives the company right to redeem bonds before maturity. Hence, in case of callable bond company holds right to redeem debt before maturity. In contrast to callable bond, putable bond allows the bondholders option to exchange the bond for cash.