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FL07 - Secured Debt
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Lecture notes of 11 pages for the course Law of Finance, Credit and Security at KCL (FL07 - Secured Debt)
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FL07 – Secured Debt 13/11/15 Prof. Michael ShilligSECURED CREDIT
INTRODUCTION
Secured credit
Security interests = proprietary interests that gives a particular creditor a
right to preferential satisfaction to a particular asset
o Secure debt in debt securities, or in loans
o Security interests can be collateral, and can be the assets that
provide security for the debt
Overview
o Methods of securing repayment
o Economic analysis of security interests
o Fixed and floating charges
o Financial Collateral Arrangements
METHODS OF SECURING REPAYMENT
Default risk
E(F )
NPV F0
1 E ( ri )
o
Expected future cash flow = aggregate of the multiplied
value of probability and each future cash flow
E.g. if expected value = 136 (when unsecured, and calculated
using formula), what is the expected value with security if
security interest has value of 100
When unsecured, probability of getting 210 = 0.5,
probability of getting 90, 70, 50, 30 or 0 = 10% each
Payoff can never be less than a hundred, hence
expected value would be 155 E(F) = 0.5 x 210 + 0.5
x 100 this is because, probability of payoff without
security of less than 100 is 50%, but you would
definitely receive the minimum security interest of 100
With security, variance and standard deviation is much
lower, and expected value would increase
o Default premium = probability of default
n
E (F ) p j Fj
j 1
o Expected value:
o Hence, security interests reduces risk!
Method 1 of securing debt = personal security
o Essentially, get a guarantee to secure the loan (usually shareholder
of borrower company, or one of the subsidiaries)
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