Ch 7 - Alternative sources of finance Flashcards
Give 4 types of alternative sources of finance
1) Shadow banking
2) Direct project financing
3) Crowdfunding
4) Microfinance
Shadow banking
def: non-bank financial institutions that convert ST liabilities to LT assets outside the regulated banking system = known as MATURITY TRANSFORMATION
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shadow banks don’t take deposits but instead borrow ST funds in the money market
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since they’re outside the banking regulatory system, they’re not subject to capital requirements & reserve requirements imposed on commercial banks
» not able to borrow from central banks (therefore exposed in an emergency)
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to reduce exposure of traditional banks to shadow banks & the effect on the economy as a whole, in future - shadow banks are likely to be subject to the same banking regulations imposed by supervisory authorities
Project financing
def: used in financing large infrastructure projects, often involving *PPP
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>with government funding where the size of capital required for the project is very large, often amounting to 100’s of millions of Rands.
>projects are often high-risk & LT & capital needed is raised from a consortium of lenders from the host country as well as foreign lenders
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> normally used for development or exploitation of natural resources
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PPP = public-private partnerships
What are the main features of project finance?
1) formation of a new legal entity as a SPV (SPECIAL PURPOSE VEHICLE)
2) NON-RECOURSE method of financing
3) OFF-BALANCE-SHEET financing
Special Purpose Vehicle (SPV)
def: financing vehicle which is setup for the specific project & is the borrower, subcontracting the construction & operation contracts.
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SH’s of the SPV are equity investors who own the co. (gov may be involved in granting permits or providing funds as a SH)
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Setting up & running of the SPV adds to the cost of financing tthe project
Non-recourse (no entitlement) financing
def: lenders rely for repayment of the loan on the revenues from the project with the project’s assets held as collateral
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> no revenue during the construction period
> lenders expect a higher return to compensate them for taking on additional risk
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>finance is secured on the project’s assets & lender is paid only from the profits of the project & bears the risk that these profits & assets might be insufficient to repay the o/s loan
OFF-BALANCE-SHEET financing
def: own accounts which are separate from the accounts of the borrowing company/companies involved
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adv: since the SPV is the borrower, the liabilities of the project are kept off-balance-sheet for the company & so the project dent is not consolidated onto its balance sheet
Crowdfunding
def: enables a large # of participants, individuals or businesses to support a business, project, campaign or an individual
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>normally setup on a website or social media to raise funds
>aim = attract as many participants as possible
>individuals decide the amount they wish to contribute
> less formal than other sources of finance
>recently gained popularity
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> used where traditional loans are unavailable
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some types of crowdfunding are subject to regulation by supervisory authorities (FCA)»_space; risk = lack of a 2nd’ary market
Different types of crowdfunding (according to their rate of ROI)
Definitions
1) DONATION-BASED : donating to a charity (no financial rewards & donor derive satisfaction from helping)
2) PRE-PAYMENT/ REWARD-BASED: in return for giving money, participants are rewarded by receiving a service/product such as concert tickets or a new computer game)
3) LOAN-BASED (peer-to-peer lending): investors receive interest on the money they lend & capital is repaid over time
4) INVESTMENT-BASED: investors buy shares & benefit if the business succeeds
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Return ranked:
1) DONATION-BASED : loss of amount ‘invested’
2) PRE-PAYMENT/ REWARD-BASED: returning whatever the financial value of the reward is
3) LOAN-BASED (peer-to-peer lending): debt finance usually lower than equity based (like investment)
4) INVESTMENT-BASED
Peer-to-peer lending
(Recent innovation [Zoba & Funding circle]) have established technology platforms to match borrowers & lenders online.
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>investors don’t normally invest in individual loans but their investment is matched with %’s of a large # of loans [reduces risk for investors, relative to investing in single loans]
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e.g include unsecured personal loans, car loans & small business loans
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Investors are typically looking for income & willing to accept the credit risk, but also include some institutional investors.
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interest rates may be more attractive compared to those available on bank savings
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don’t accept deposits & are not banks (regulated by FCA [UK] & SEC - exchange commission [US])
Microfinance
2 characteristics are:
1) small amounts (smaller than smallest business loan from a bank)
2) available to borrowers who may not have access to traditional loans (due to location, poor credit-worthiness, lack of an asset as security)
Give some general characteristics of microloans
> no interest is paid on the loan & the investor has the benefit of being involved in initiating a venture
used for start-ups & small businesses
often have generous repayment periods
charities involved in reducing poverty & promoting small scale start-ups in developing countries use microfinance to encourage investors to fund small scale businesses
cost is borne by the parties involved & may be high compared to relatively small loan amounts involved
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beneficial/sustainable for neighbourhood or community
possible risk = failure of business ventures & increased indebtness of loan recipients
