Magic Pudding or Regulatory Arbitrageur's Friend? The Use of Hybrid Debt Equity Securities by Australian Listed Corporations

MGSM Working Paper No. 2006-4

35 Pages Posted: 15 May 2006

See all articles by Tyrone M. Carlin

Tyrone M. Carlin

Southern Cross University; The University of Sydney Business School

Guy Ford

Macquarie University - Graduate School of Management

Nigel Finch

Saki Partners

Date Written: February 2006

Abstract

The past few years have seen high levels of growth in the use of hybrid financial securities by Australian corporations. The conventional explanation for this phenomenon has been that hybrid securities represent a highly flexible tool capable of deployment towards the end of reducing overall firm cost of capital, whilst at the same time providing attractive return streams to investors. In this paper, we suggest that this approach to conceptualising and explaining the increasing popularity of hybrid securities is tantamount to asserting the existence of a financial magic pudding. Instead, we contend that the rise in popularity of hybrid financial securities can be better explained by their capacity to assist their issuers take place in sophisticated regulatory arbitrage. We find irony in this, given that the rise in the popularity of instruments whose key purpose is to circumvent regulation has taken place during a period of heightened focus on good corporate governance and transparency and consistency in financial reporting. We tender evidence to support our contention that hybrids are better understood as tools of arbitrage than tools of effective capital management by demonstrating that the cost of hybrid securities is not as low as has been conventionally thought. Further, we present evidence of the material distortions to measures of leverage, earnings and operating cashflows which result when firms use hybrids to play the regulatory arbitrage game. We conclude by arguing that further reform to the current regulatory regime is required in order to improve the quality of contemporary financial reporting.

Keywords: Hybrid Securities, Financial Reporting, Creative Accounting, Regulatory Arbitrage

JEL Classification: G30, M41

Suggested Citation

Carlin, Tyrone M. and Ford, Guy and Finch, Nigel, Magic Pudding or Regulatory Arbitrageur's Friend? The Use of Hybrid Debt Equity Securities by Australian Listed Corporations (February 2006). Available at SSRN: https://ssrn.com/abstract=901122 or http://dx.doi.org/10.2139/ssrn.901122

Tyrone M. Carlin

Southern Cross University ( email )

Lismore, New South Wales 2480
Australia

The University of Sydney Business School ( email )

Cnr. of Codrington and Rose Streets
Sydney, NSW 2006
Australia
+ 61 2 9036 7230 (Phone)
+61 2 9351 7471 (Fax)

HOME PAGE: http://sydney.edu.au/business/staff/tyronec

Guy Ford

Macquarie University - Graduate School of Management ( email )

99 Talavera Road
Sydney, NSW 2113
Australia
+61-2-9850-7813 (Phone)
+61-2-9850-9019 (Fax)

Nigel Finch (Contact Author)

Saki Partners ( email )

Australia

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