What is the difference between stocks and bonds?
Loan stock is a form of debt which shares multiple features with risk investment. It’s stock issued by your business as a collateral against a loan. Just like other loans, it earns interest and grants control of the shares to the lender until the loan is paid off.
A bond is a written and signed promise to pay a certain sum of money on a certain date, or on fulfilment of a specified condition. All documented contracts and loan agreements are bonds. Traditionally, bonds are traded between owners for an agreed price, but in a social business, they are effectively the same as loan stock.
Loan stock and bonds give no say in running the business. Like other types of debt finance, they can be secured against capital assets or personal guarantees.
What are the advantages of loan stock and bonds?
In a company limited by guarantee where there is no share capital, loan stock and bonds are useful as they are regarded as quasi-equity. As long term investments, they support the financing of the business rather than being regarded as a liability that must soon be paid back to the investor.
Loan stock is often used by enterprises formed with a clear social purpose of community benefit. Loan stock provides a low cost route to small-scale investment by supporters, but is probably under-utilised by enterprises generally.
Loan stock is ideal for a highly targeted ethical investment because it does not require legal advice to issue, and so is available to smaller organisations. Legal advice may be necessary for larger and more complex issues. All issue of loan stock should set out:
- a maximum amount that can be issued
- a clear date of maturity (sometimes referred to as the ‘closing date’)
- a rate of interest (or a clear statement that no interest is payable or how the interest is to be calculated)
There is an added tension about taking real peoples’ money and gambling with it beyond that experienced when taking a financial institution’s money and gambling with it. This is an assertiveness issue and a clear pointer that you need to have a credible business plan and financial projection.
Loan stock investors
Many people have a legitimate interest in the establishment, development or growth of an enterprise. These include potential customers looking for a new or alternative source of supply, potential suppliers looking for a market, potential project partners looking for a strong ally. Many other people would welcome an opportunity to make an investment at a few points better rate of return than a bank would offer, whilst supporting local enterprise and local people.
Particularly when dealing with people with a personal connection, it is important to deal with things on a professional basis and keep proper records. Soft loans are not soft loans if the lender thinks that they have a right to ask for the money back because it is Christmas?
Unicorn Grocery, a worker co-operative in Manchester retailing local, organic, fairly-traded and wholesome food products, has made use of loan stock issues. In 2005, the owner of the co-operative’s rented store wished to sell the property.
To avoid losing its premises and to ensure its long-term sustainability, the co-operative raised the finance required to purchase the property itself. This was achieved through £350,000 raised from loan stock bonds bought by customers and loans provided by The Co-operative Loan Fund in partnership with Co-operative & Community Finance.