Advance Refunding

  

Categories: Bonds, Muni Bonds

Let's say you want to buy a shiny, used Bugatti on credit. The debt service costs a cool $3,000 per month—how can you make sure you can make the payments? Well, you might want to sock away a bunch of Gs in the bank.

Advance prefunding works the same way—but with bonds, not cars. With "safe" bonds, or bonds where an administrator is worried about the cash actually getting to the people for whom it was intended, a prefunding feature can ensure that money is socked away.

When a bond is issued, a chunk of money is tucked away safely in a nice escrow account with a bank or trust company so that the odds of the money actually being there for a distribution or a call provision are high. It's extra netting under the financial high wire.

What happens if a government issues bonds and then runs a little short when it's time to pay up? One option is to issue a new bond to pay off the outstanding bond (that means a past due bond—not great). That's called advance refunding, and it buys the issuer a little extra time in paying off their debt.

P.S. The concept is kind of arcane.

Related or Semi-related Video

Finance: What is the Debt to Equity Rati...18 Views

00:00

Finance allah shmoop shmoop What is the debt to equity

00:05

ratio or duras It is named in insane asylums all

00:10

over the world Well it's a balance sheet computation that

00:13

tries very roughly to measure how efficient a company is

00:17

using its precious capital resource is the numerator comprises long

00:21

term liabilities on ly For most companies with debt the

00:25

amount of long term debt vastly outweighs the short term

00:29

So they ignore the short The denominator is the company's

00:32

shareholder's equity Easy You know that computation right ale and

00:36

think that's the capital invested in the business that's what

00:40

Isthe so what does it mean to have a high

00:42

durer Well if shmoop a loops llc a producer of

00:46

the most delicious cereal on the planet has four billion

00:50

dollars of debt And on lee fourteen dollars of equity

00:53

will you don't have to be a wall street genius

00:55

to get that that's bad right Tons of debt almost

00:58

no equity It means that loans comprise some ninety nine

01:02

percent of the company and well that it is essentially

01:05

owned by the bank and other creditors not by the

01:08

equity stake holders And you want steak Flip things around

01:11

Your cisco networks with a billion dollars of debt and

01:14

like fifty billion dollars of equity Well the shareholders clearly

01:18

owned this company The size of the equity dwarfs the

01:21

size of the debt Got it Bottom line High ratio

01:23

bad low ratio Good at least if you're one of

01:27

the owner investors But if you're a banker with a

01:30

hankering to own a cereal company well then today you 00:01:33.338 --> [endTime] might be able to just take one over girls

Up Next

Finance: What is a Line of Credit?
133 Views

What is a line of credit? A line of credit is kind of like a loan. A bank gives a borrower a line of credit, which basically says they can borrow â...

Finance: What is the Times Covered Interest Ratio?
23 Views

What is the Times Interest Coverage Ratio? The interest coverage ratio divides EBIT by interest expenses. It looks at a company’s ability to pay...

Find other enlightening terms in Shmoop Finance Genius Bar(f)