1. define securitization of debt. Why are debts securitized? What are asset-back
ID: 2731832 • Letter: 1
Question
1. define securitization of debt. Why are debts securitized? What are asset-backed securities becoming increasingly important in capital markets?
2. Another name for a Special Purpose Entity is a Variable Interest Entity or VIE. Are companies that enter into these types of transactions hiding debt? Is there adequate transparency here to the users of financial statements? What are your thoughts?
3. In some cases, securitization can be what is referred to as "off balance sheet financing" Can anyone explain why off balance sheet financing might be beneficial?
Explanation / Answer
ANSWER 1:a) Define Securitisation
Securitization broadly implies every such process which converts a finanical relation into a transaction. Securitization is the process in which certain types of assets are pooled so that they can be repackaged together into interest bearing securities. In other words, it is defined as “ the process whereby loans, receivables and other financial assets are pooled together, with their cash flows or economic values redirected to support payments on related securities"
b) Why are debts securitised?
c) What are asset-backed securities becoming increasingly important in capital markets?
Asset Backed Security (ABS) is a security which is backed by a loan or recievable. in other words, a financial security which uses any asset, including loans, leases, credit card debt, company receivables or royalties, as collateral.
ABS provide characteristics, such as products with financial guarantees, predictable cash flows, or floating rate characteristics, which some buyers of capital market securities value highly, and thus are willing to pay a premium price to obtain. This is also seen where the credit enhancements reduce default risk to investors of the mortgage-backed securities.
ANSWER 2:-
SPV comes into picture when during the process of securitisation it involves any asset or claim that needs to be integrated and differentiated, that is, unless it is a direct and unsecured claim on the issuer, the issuer will need an intermediary agency. SPV acts as a repository of the asset or claim, which is being securitised. The security charge over the issuer's several assets needs to be integrated and made into marketable lots. For this purpose, SPV issues certificates to the investors of beneficial interest in the charge held by the intermediary(SPV). Thus, the charge continues to be held by the intermediary, beneficial interest therein becomes a marketable security.The same process is involved in securitisation of receivables. The SPV holds the receivables with it, and issues beneficial interest certificates to the investors. Therefore, SPV are not hiding debt and there is adequate transparency available.
ANSWER 3:-
Off-Balancing Sheet Financing represents financing that does not appear on the balance sheet of a company because the applicable accounting principles allow for a different treatment in the financial statements. Example:- the acquisition of assets on operating leases or the use of special-purpose vehicles such as partnerships or trusts.
It may be beneficial to a company because the resulting liabilities are not shown on the balance sheet of the company, so its financial position might appear in a better light to investors or lenders.It becomes easier to obtain funding through equity capital or loans. When investors study the financial statements of a company, they give close attention to the liquidity of the company. A company with high levels of debt compared to its equity capital might be seen as a relatively risky investment. Also, a high level of debt might make it more difficult for the company to obtain further loans. If some of the debt can be excluded from the balance sheet, the financial position of the company might appear in a better light, and this will improve the company's borrowing capacity.
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