Civil Law Concepts on Bonds and Its Several Types

Definition of Bonds can be seen in Black’s Law Dictionary 6th Edition (1990: 178) as follow:

“A certificate or evidence of a debt on which the issuing company or governmental body promises to pay to bondholders a specified amount of interest for a specified length of time, and to repay the loan on the expiration date.  A long term debt instrument that promises to pay the lender a series of periodic interest payments in addition to returning the principal at maturity. In every case a bond represent debt ― its holder is a creditor of the corporation and not a part owner as is the shareholder. Commonly, bonds are secured by a mortgage.”

The basic legal concept which is used concerning Bonds in Indonesia is an agreement, that is a promise from the issuer to the Bonds buyer to return the amount of money that has been spent by the Bonds buyer within a certain time and added with compensation in the form of interest, with the payment method determined at the beginning of the agreement.

The concept referred above is regulated in the provisions of Article 1268 of the Civil Code as follows:

“For what must be paid at the determined time cannot be collected before that time arrives; but for what has been paid before that time cannot be returned.”

From that basic concept, Bonds’ terms and conditions have developed along with business development, which makes Bonds be classified into several types

Bonds can be distinguished in terms of the issuer, interest, option right, collateral, principal value, and yield (Bursa Efek Indonesia, 2010).. In terms of issuer, Bonds can be differentiated into 3 (three), which are:

1. Government bonds is a bond issued by the government of a particular country to fund governmental necessites, which have been determined in an annual state budget.
2. Company bonds is a bond issued by a business entity in order to fund the company’s business needs.
3. Municipal bonds is a bond issued by a municipality of a country in order to fund its need to build its region.

Based on interest payment system, bonds can be divided into:

1. Coupon Bonds is a bond with coupon which can given periodically in accordance with provision provided by the issuer.
2. Fixed Coupon Bonds is a bond with fixed interest rate which is paid periodically.
3. Floating Coupon Bonds is a bond whose interest rate determined according to a certain benchmark, for instance the average interest rate on government bank deposits.
4. Zero Coupon Bonds is a bond issued with no periodic interest payment, instead the interest payment is paid all at once at maturity.

Based on exchange/option rights, bonds can be divided into:

1. Convertible Bonds, a bond which gives the right for the holder to convert bonds into shares if at maturity, the bond issuer cannot return the principal value of the bond.
2. Exchangeable Bonds, a bond which gives the right to the holder to exchange issuer company’s share into some of the issuer affiliated company’s shares.
3. callable Bonds, a bond which gives the issuer the right to buy back the bond at a certain price throughout the term of the bond.
4. Putable Bonds, a bond which gives investors the right to require the issuer to buy back the bond at a certain price throughout the term of the bond.

Based on the collateral, bonds can be divided into:

1. Secured Bonds, a bond which is secured by the issuer with certain asset or other collateral given by third party. Secured Bonds can also be divided into 3 (three) types, which are:
   1. Guaranteed Bonds, a bond whose payment of interest and principal are secured by a guarantee from a third party.
   2. Mortgage Bonds, a bond whose payment of interest and principal are secured with mortgage collateral for property or fixed assets.
   3. Collateral Trust Bonds, a bond secured with securities owned by the issuer in its portfolio, for example shares in subsidiaries it owns.
2. Unsecured Bonds, a bond which is not secured with any particular asset and only secured with issuer’s wealth in general.

Based on the principal value, bonds can be divided into:

1. Conventional Bonds, a bond which is usually traded in one nominal amount, for example IDR 1 billion per lot.
2. Retail Bonds, a bond which is traded in small nominal amount, both for corporate bonds and government bonds.

Based on the yield, bonds can be divided into:

1. Conventional Bonds, a bond which uses interest coupon calculation system by percentage.
2. Shari’a Bonds, a bond which uses profit sharing system, which consists of:
   1. Mudharabah Shari’a Bonds, a sharia bond which uses profit sharing agreement (akad) based on the income received by the issuer.
   2. Ijarah Shari’a Bonds, a sharia’a bond which uses rental contract, so that the yield is fixed and can be calculated in advance when the bond is issued

For investors, bond has unique characteristics which distinguish it from other investment products, those characteristics are:

1. Principal value which is stated in the bond, which must be returned by the issuer to the bond holder at maturity.
2. Yield, an interest received by bonds’ holder which usually given periodically as an added value to their investment in the bond.
3. Maturity, a date when concerned bond ends and issuer must pay principal value of the bond to the holder.
4. Issuer, the party who needs fund by issuing bonds, which in this case can be the government, company or local government.

Issuance of the bonds can be beneficial to the issuer, the benefits, among other, are:

1. Obtain relatively large funds which can be received at once in a relatively fast time;
2. The principal repayment period is long;
3. Facilitate the issuer’s business activities, especially for its business development.

Debt arising from bond issuance tends to be more controllable by the issuer.