In the world of investments, calls are used to suddenly make an action with an investment instrument. They are usually an integral part of the investment itself. With shares of stock, these calls can be bought and used within a specific time, but in bonds calls are usually put into the indenture by the company issuing the bond, allowing them to change the conditions of the bond if certain conditions are met.
Corporate bonds are used by businesses to raise capital. A bond is similar to a loan: investors buy the bonds, giving the face value of the bond to the business. Bonds come with a maturity date, usually several years out, and an interest rate so that the bond amount accumulates interest over time. When the bond matures, the business pays the investor back the principal plus the interest, allowing the investor to make a profit.
A conditional call on a corporate bond allows the issuer—the company that created the bond—to suddenly pay the bond off at some point before the maturity date. The bond ends, along with any interest that it was accumulating. The call is conditional because the business can do this only if certain conditions are met and if it replaces the bond.
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A business uses a conditional call if its assets reach a certain level or if it loses some form of collateral. Essentially, a business may find that paying off a bond immediately is easy because of an influx of funds that may not always be present or because it wants to balance out its debt and equity capital. Sometimes calls are based on market conditions so a business can pull out of the debt market at certain times.
A conditional call can be a bad deal for investors because they lose the interest they were expecting to gain over the rest of the bond's life. This is why conditional calls usually require the business to replace the bond with another, similar bond. It does not have to be a bond with precisely the same terms, but it does help investors recoup at least some of their loss.
A conditional put is related to a conditional call, but is the investor's right to demand immediate repayment on the bond before the maturity date. This is based on conditions like a breach of the covenants agreed upon in the prospectus, which may occur if the business commits a crime and misrepresents information.
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