Many entrepreneurs often think about how large companies in India raise such large funds for their ambitious projects? How can they finance a new factory, purchase a different business or bring a brand new product line? The answer is structured finance.
With complicated business regulation, structured finance is a vital tool for businesses seeking to expand. A report by CRISIL calculated that India’s structured financial market was scheduled to grow two-fold in the coming years. But what is structured finance, and how will it help businesses in India attain growth targets? Let us understand this clearl
What Is Structured Finance?
Structured financing is financing which uses sophisticated financial instruments to hedge risk and raise money. Unlike conventional loans, which are straightforward and involve a pledge to repay, structured finance involves more advanced items, which includes asset backed securities, collateralized debt obligations and credit derivatives.
Why Structured Finance is Essential for Indian Businesses?
In a developing market like India, businesses frequently require large sums to finance their expansion plans. Traditional financing methods like bank loans aren’t always adequate or appropriate. This is where structured finance steps in.
Structured financing provides companies access to massive pools of capital – often at a lower rate compared to conventional loans. Additionally, it enables them to distribute their risks over even more instruments.
For instance, a business that would like to raise cash to construct a brand new factory might issue bonds secured by future income from that factory. So the company can obtain financing without depending on its current assets.
Main Components of Structured Finance
Structured finance comprises a few elements that form a customised financial solution. The most important ones are given below :
1. Assets-Backed Securities (ABS)
They’re financial instruments supported by an asset pool like loans, mortgages, or receivables. Simply by bundling these assets together, corporations raise cash by selling securities to investors.
2. Collateralized Debt Obligations (CDOs)
CDOs are structured finance products whereby debts including loans or bonds are pooled and the money flows out of all those debts are sold to investors.
3. Credit Derivatives (Cds)
They’re financial contracts where companies pass credit risk from a single party to yet another. For instance, a company could use credit derivatives to hedge its exposure to a borrower defaulting on a mortgage.
4. Securitisation
Securitisation transforms illiquid assets like receivables or loans into tradable assets. This lets companies raise capital through offering these securities to investors.
How Businesses in India Can Benefit from Structured Finance?
Structured finance offers several benefits to help companies in India achieve their growth targets. This is how:
1. Access to Large Capital Amounts: Structured financing enables companies to raise substantial sums of cash to finance expansion, other growth initiatives or acquisitions.
2. Cost Effective Financing: By utilising structured financing, companies can obtain financing at a discount from standard loans, lowering their capital cost.
3. Risk Management: Structured finance gives companies tools to manage financial risks. For instance, a company can insure itself from default by using credit derivatives.
4. Flexibility: Structured finance is flexible and also enables businesses to create economic solutions to fit their requirements. This could be extremely helpful in a challenging and changing market like India.
Role of Financial Services in Structured Finance
Structured finance demands expertise and planning. Here professional services like accounting and bookkeeping services and virtual CFO services can be helpful.
Accounting & Bookkeeping Services
Any structured finance transaction requires accurate and current financial records. Companies must keep accurate records of their expenses, income, liabilities, and assets to prepare accurate financial statements. Businesses can keep these records in good shape with accounting and bookkeeping services, which can make structured finance deals happen with their expert guidance.
Virtual CFO Services
A virtual CFO (Chief financial Officer) may provide strategic financial advice and guidance to businesses for structured finance. Virtual CFO services can assist businesses to evaluate their financial requirements, determine ideal structured financing and plan to achieve their financial objectives.
Through such financial solutions, businesses in India can take advantage of structured financing while making sure they have the materials and knowledge to be successful.
Challenges & Risks in Structured Finance
Structured finance has benefits but also responsibilities and risks. Companies should be alert to such issues and take measures to reduce them.
1. Complexity: Structured finance includes complicated financial instruments which are hard to comprehend and manage. Companies may have to talk to financial experts about their benefits and risks from such products.
2. Regulatory Compliance: Regulations and laws on structured finance transactions vary. Companies must follow these guidelines or risk legal and monetary penalties.
3. Market Risk: Modifications in market conditions like interest rates or economic slowdowns might impact the value of structured finance products. Companies should evaluate these risks and create mitigation strategies.
4. Risk of liquidity: Some structured financial solutions, like asset-backed securities, are less liquid compared to conventional financial instruments. What this means is companies might have a tougher time selling these products in case they have to raise cash fast.
The Future of Structured Finance In India
The structured finance market in India will keep developing in the coming years because of capital need and advanced financial solutions. With the growing market, more companies will look to structured finance to fund their expansion and hedge their risks.
Still, how structured finance develops in India also is dependent upon regulation changes, market conditions and availability of financial professionals. Firms that can conquer these difficulties and grab opportunities provided by structured financing will be well placed to compete in the industry.
Conclusion
Structured finance can provide companies in India with new growth and expansion opportunities. Companies can generate capital, manage risk and achieve a financial goal by using sophisticated financial instruments.
However, structured finance isn’t without difficulties. Companies need to engage experienced financial professionals and use services including accounting and bookkeeping services as well as virtual CFO services to deal better with structured finance.
With the changes in the economy after the recent budget, structured finance will probably become progressively more essential in helping businesses realise their potential. If you are a small company looking to grow or a big corporation preparing for a significant project, structured finance has got the financial solutions you need to succeed.
FAQs
Why is it called structured finance?
It’s structured finance because it involves creating custom financial solutions using complicated instruments “structured” to specific requirements. Unlike traditional finance, structured finance produces customised products by merging various assets in addition to financial contracts.
What are structured financial instruments?
Structured financial instruments are financial products with certain financing needs. They usually include asset backed securities, collateralized debt obligation, and credit derivatives. They’re instruments which pool different financial assets and design them to deal with risk, supply liquidity and yield returns to investors.
What is structured finance and leveraged finance?
Structured finance isn’t leveraged finance but they could overlap. Structured finance refers to customised financial solutions using complicated instruments, whereas leveraged finance uses borrowed cash (leverage) to fund investments which have greater risk and potential returns. Both optimise capital structure but in different ways.
What is financial structure leverage?
Financial structure leverage is borrowing to boost a possible return on investment (debt). Leverage enables a company to amplify earnings while posing greater financial risk because the company must service debt obligations no matter its performance.
What structures does structured finance have?
Structures of structured finance generally involve asset backed securities (ABS), collateralized debt obligations (CDOs) and credit derivatives. Such structures pool financial assets including receivables or loans and turn them into tradable securities so that businesses raise capital or even control risk.
What are the benefits of structured financing?
Structured financing benefits from substantial pooled funds, cost-efficient financing, risk management and greater flexibility to suit financial requirements. With complex instruments, companies can customise financial solutions to their own difficulties making structured
