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The rate of return on the future issues is expected to be lower and there will be a need for re-moduling after the judgement by the Supreme Court regarding Riba

Feb 14 - 20, 2000

A strong corporate debt market is highly desirable for the rapid growth of any economy as it leads to the efficient mobilization of resources for long-term investment. Raising debt through capital market is a more efficient way of securing funds because the company does not have to go through the cumbersome process of obtaining funds from financial institutions or in different installments. It provides the investors with the opportunity of earning certain returns and a new and better way to diversify their portfolio. Companies can lock into interest rates for a long period of time and a known cost of capital helps them in planning and budgeting process. Investors always have the other advantages of equity market instruments such as ready liquidity and capital gains. In short, corporate bonds have advantages both for investors and borrowers (issuers) which adds to the attractiveness of this market.

The corporate debt market in Pakistan is limited to only 1% of the total bond market and is currently in its nascent stages. Term Finance Certificate (TFC) is one of the type of corporate bonds. However, there are also other corporate bonds available, issued by statutory corporations such as WAPDA and KESC. Till recently, the major issuers were financial institutions. However, active participation from individual investors has encouraged the manufacturers, having specific programmes, to also float TFCs. Almost all the public offers were over-subscribed. This was mainly due to the declining interest rates offered by banks and the National Savings Schemes (NSS).

Since 1994, when capital market reforms started, the GoP has made a significant effort to address the factors constraining the development of corporate debt market. An amendment was made in the Companies Ordinance 1984 and companies were allowed to raise debt publicly. A number of other regulations were also introduced to create a friendly environment for this market. Some of the salient features of the new policy were:

  • Reduction of stamp duty,

  • Permission to list TFCs on the stock exchanges,

  • Eligibility of listed securities for SLR purposes,

  • Establishment of credit rating agencies

  • Permission to provident funds/pension funds to invest in listed securities,

  • Exemption to institutional investors from withholding tax,

  • Complete tax exemption to provident funds/pension funds

If the development of the debt market is analyzed over the last four years since the first TFCs were issued by Packages, the results don't appear very encouraging. There are various reasons for this, primarily such as the requirement of credit rating in case of a public issue. Most of the companies lack the reputation to qualify for a rating that could elicit a satisfactory public response. As far as most of the blue-chip companies are concerned, they are already borrowing at relatively lower rates ranging from 13 to 15 per cent, and therefore, issuing TFCs is not a attractive option for them.

Changing scenario

The efforts to reduce interest rates in Pakistan have started showing significant results. This is part of the overall measures to boost economic growth rate in the country. Similarly, the rate of return on NSS and T-Bills yield were lowered. Excessive liquidity of the banking system demanded some alternative avenues for investment. All these changes indicate the change in the outlook for corporate debt market. Traditionally, Pakistanis were more keen in investing in gold, foreign currencies and NSS as the perceived risk was lower. Some of these avenues are no longer attractive, but one cannot say that debt instruments offer an alternative avenue to such investors. They may still continue to invest in 'more secure' instruments despite offering lower return. However, it is important to note that companies with credible track record will be floating TFCs rather than increasing their capital base or depending on financial institutions for meeting their funds requirements.

Presently, the main industries are either in a restructuring phase, as opposed to growth, or in the grip of oversupply. According to some analysts, with the real rate of interest going down, there would be an increase in money circulation in the economy. In the absence of any viable avenues of investment, the average investor would have a few attractive opportunities for investment may prove as a disincentive to save. This is going to result in an increase in disposable income, which would result in increase in spending. This, to some extent, can stimulate demand for goods which could be a positive sign for the industries facing problem of oversupply.

These analysts believe, as the corporate debt market develops and large issues start coming in, one may see more variety in the kinds of instruments available. Therefore, this market would be able to satisfy the diverse needs of different segments of investors. Active participation of financial institutions will also be essential because they are the volume buyers and could provide liquidity and trading activity. This will help in the development of secondary market for the TFCs also.

Some of the analysts believe that the GoP should further reduce the rates on the NSS so that individual investors could be attracted to other avenues of investment including the debt instruments. However, the GoP may not agree with this proposal simply because these schemes are one of the main sources of obtaining funds for deficit financing. They say that the GoP, brokerage houses and companies should take steps to increase investor's awareness about the debt instruments. Lack of awareness is one of the main hurdles in the development of the debt instrument market in the country. All the debt instrument issues should be massively advertised as it is done for NSS or prize bond schemes. Development of strong and efficient secondary markets, for such instruments, will play a vital role in the development of corporate bond market in the country.

The economy

The probability of meaningful structural reforms appears higher now than at any other time. The reason is that Pakistan has little room to maneuver as most of the alternative sources of funding have exhausted such as short-term commercial loans, international capital markets, foreign currency accounts and financial aid from friendly countries. It is also important that the companies that have already issued the TFCs continue to perform well and pay agreed returns to the investors on due dates. Though the market is at a nascent stage it has the potential of growing manifolds.

A number of leasing companies are looking towards the TFCs as a way out of their financial woes. The exemption of institutional investments in TFCs from the 10 per cent withholding tax, together with the downward trend in interest rates and uncertainties in the exchange rates have made TFCs the best financing bet for leasing companies to overcome their mismatch of funds and ensure reasonable spread.

The GoP intends to boost economic revival by reducing interest rates. As a result, TFCs offering rates of return ranging from 16 to 18 percent seem all set to become the most lucrative investment opportunity. Theoretically, investors would only be interested in TFCs, if they feel that the risk premium offered is high enough to compensate for the additional risk they are taking on. The market has witnessed excellent response to some of the recent TFC issues. Interest in the public offering has been on the rise, and most of the public offers were over-subscribed.

The excellent response to TFCs issued by leasing companies provides a lead to other companies who have been reluctant to utilize this funding source. TFCs provide capital at a lower cost than equity and also carry tax advantages. Furthermore, 'shelf listing' of TFCs enables issuers to tap the market at a time most suited to their needs, within a maximum period of three years. An increased activity in the secondary market for TFCs has been witnessed. Since all the future issues of TFCs will be 'live' on Central Depository System, the interest of investors in TFCs will be further boosted.

Many analysts believe that the development of TFCs market would have beneficial effects on the investment environment and corporate governance in Pakistan. Firstly, the issuance of TFCs requires careful scrutiny of the financial statements and management performance by an independent and unbiased credit rating agency. This will ensure greater disclosure and transparency. Secondly, the disclosure of the exact amount of principal and interest payments decreases the possibility of default and builds investor confidence. Thirdly, the obligation to meet the debt payments serves as a check on the management and prevents inefficient utilization of funds.

The federal budget 1999-2000 provided an incentive to institutional investors to invest in TFCs by offering an exemption from the 10 per cent withholding tax at the time of the profit payments. This factor together with the depressed interest rates appears to have made a positive impact on the corporate debt market. As a result, it is anticipated that a large number of TFCs will be issued in the near future. Many securities analysts estimate the size of forthcoming TFCs issues to range from Rs. 1 billion to Rs. 3.5 billion. The current market capitalization of TFCs is estimated around Rs 4.6 billion (excluding KESC TFCs). Currently there are eight TFCs issues outstanding in the market and the secondary market is fairly active. In the near future TFCs will be mainly issued by leasing companies, with more than Rs. 500 million being raised by four leasing companies during the first half of year 2000. The proceeds will be used to finance their capital requirement in the face of funding constraints. Foreign credit lines which had previously served as the main source of funds, have been exhausted by the leasing companies. Foreign credit lines have also become an expensive option due to the new instructions of the State Bank of Pakistan.

Another important issue facing the leasing sector is the revision of the capital base requirement for leasing companies by the Securities and Exchange Commission of Pakistan (SECP). The SECP had originally allowed leasing companies to commence operations with a capital base of Rs 50 million but has now enhanced the requirement to Rs 200 million. The leasing companies were required to meet this requirement by November 1999. However the SECP is considering a proposal to treat the total shareholders' equity as their paid up capital, in order to meet the capital base requirement. Even if the SECP accepts the proposal a large number of companies, belonging to leasing sector will not be able to meet the requirements. In the absence of the likelihood of issuing share capital owing to depressed market conditions, the option of mergers and acquisitions seems to be an attractive option.

Outstanding issues

Packages was the first ever manufacturing company to float its TFCs amounting to Rs 250 million. TFCs were floated in February 1995 and had five-year maturity period. The issue was rated A+ (A plus) by the credit agency and coupon rate of 18.50 per cent.

Sui Southern Gas Company (SSGC) floated Rs 500 million TFCs in October 1995 with a maturity period of five years and coupon rate of 18.25 per cent. It was rated AA by the rating agency.

ICI Pakistan floated TFCs worth Rs one billion in September 1996 primarily to finance its PTA project. Maturity period was five years with a coupon rate of 18.7 per cent. It was rated AA- and was under written by Muslim Commercial Bank.

TFCs by Gatron were floated in July 1998. The issue was underwritten by Orix Investment Bank and was rated A+. Rs 200 million was raised through Pre-IPO and remaining Rs 74 million was offered to general public, It carries a coupon rate 18 per cent.

First International Investment Bank (Interbank) enjoying a permission to float Rs 500 million, decided to raise only Rs 300 million in the first tranche. While the issue was rated A it carried a coupon rate of 17.5 per cent.

Saudi Pak Leasing is the first leasing company to float its TFCs in January 1999 amounting to Rs 250 million with a coupon rate of 18.25 per cent. The TFCs were rated AA-. Out of the total amount, TFCs worth Rs 50 million were offered to general public.

Dewan Salman Fibre floated TFCs worth Rs 775 million in May 1999 to raise money mainly to finance its acrylic fibre unit. The issue, public offer, was over-subscribed and the Company also exercised the green shoe option and retained the over-subscribed amount. Dewan's TFCs are the first ever TFCs to be 'live' on Central Depository System.

The first tranche of Rs 330 million TFCs of National Development Leasing Corporation (NDLC) was over-subscribed. The Corporation decided to retain the over-subscribed amount. While TFCs worth Rs 230 million were raised through private placement, certificates worth Rs 100 million were offered to general public. The public offer was over-subscribed by 170 per cent. The distinctive point of the issue, which separates it from all the TFCs floated in the past, is the fact that for the first time an abridged prospectus was published in the newspapers. It was also for the first time any issuer opted for not getting the public issue underwritten by any institution indicating the strength of the Company.

Sigma Leasing Corporation has issued a medium-term TFCs. The proceeds of the issue are to be used to finance the company's business operations. The total issue amount was Rs. 100 million of which Rs. 80 million was a Pre-IPO and Rs 20 million was offered to general public which carried a green shoe option. The issue has a coupon rate of 17 per cent with the profit being paid on a semi-annual basis.

KESC with the help of Union Bank Securities Pakistan (UBS) floated TFCs worth Rs 11.5 billion through Pre-IPO and no offer was made to general public. These TFCs carry a coupon rate of 17.5 per cent and have a maturity period of five years.

Future issues

As part of its funds mobilization process and to support the operating activities, Pak-Libya Holding Company is in the process of floating its TFCs issue amounting to Rs 500 million with five year maturity period. The proposed flotation would be based on Pay-through Securitization model and it would be listed on Karachi Stock Exchange.

Pakistan Industrial Leasing Corporation has relied on credit lines from financial institutions and multilateral lenders for long-term requirements of funds. The Company has finalized arrangements to issue Rs 250 million TFCs with green shoe option.

Pak Apex Leasing Company also intends to float TFCs to finance the leasing business of the company. The entity credit rating has also been upgraded by DCR-VIS from BB (Double B) to BBB- (Triple B negative).


Among the forthcoming TFC issues, Sui Southern Gas Company's Rs one billion certificates floatation will be dependent on GoP's decision regarding its privatization. However, analysts believe that the management should go ahead with the plan due to its strong cash flow and no change is expected in the profit margin of the Company. At present profitability of gas marketing is based on specified return on assets and the company needs to expand its asset base.

The rate of return on TFCs are expected to go down due to declining interest rates. However, companies which do not wish to get entangled with a limited number of lenders and who also want to lock their future borrowing would still continue to pay above the prevailing interest rates — provided the redemption and interest rate commensurate with the cash flow. With the broad base recovery of the economy, the companies having specific BMR/expansion projects and also enjoying strong cash flow are expected to opt for TFCs rather than expanding their capital base. Any unnecessary increase in capital base affects the return on equity adversely.

Sine the Supreme Court has ordered to abolish Riba based system and also fixed a deadline, there may be a need to re-module TFCs to be floated in the near future.




Real GDP (%)



Agriculture (%)



Manufacturing (%)



Services (%)


4. 2

Inflation Rate (%)



T-bill Rate (%)



Budget Deficit (% GDP)



Current A/c Deficit (% GDP)



Forex Reserves (US$ bn)



Rupee Depreciation % (vs US$)



Various sources, consensus forecasts, iamc forecasts


TFC Issuer





Issue date

Feb 19,1995

Oct 19, 1995

Sept 30, 1996

Jun 17,1998

Amount (PKR):

232 mn


1000 mn

274 mn


110 mn


750 mn

200 mn


122 mn


250 mn

74 mn

Coupon rate(%):






5 yrs

5 yrs

5 yrs

5 yrs


101.50- 102.50

105.00 - 106.00

102.00 - 102.50

102.50 - 103.25

YTM (%):





Credit Rating






TFC Issuer




Issue date

Dec 1,1998

Jan 28, 1999

May 24, 1999

Amount (PKR):

300 mn*


775 mn




500 mn


300 mn


275 mn

Coupon rate(%):





5 yrs

4 yrs

5 yrs


102.5- 103.9

102.70- 103.25

104.75- 106.5

YTM (%):




Credit Rating:



AA +