Debt

Debt is that which is owed. A person or company owing debt is called a debtor. An entity to whom debt is owed is called a creditor. Debt is used to borrow purchasing power from the future. Companies use debt as a part of their overall corporate finance strategy.

Types of debt

There are numerous types of debt obligations. They include loans, bonds, mortgages and promissory notes. It is common to borrow large sums for major purchases, such as a mortgage, and pay it back with an agreed premium interest rate over time, or all at once at a later date (balloon payment). The amount of money outstanding is usually called a debt. The debt will increase through time if it is not repaid faster than it grows. In some systems of economics this effect is termed usury, in others, the term "usury" refers only to an excessive rate of interest, in excess of a reasonable profit for the risk accepted.

Related Topics:
Loan - Bond - Mortgage - Promissory notes - Interest rate - Money - Usury - Risk

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Large organizations can issue debt in the form of securities, known as bonds. Each bond entitles the holder to interest and principal repayments. Bonds are traded in the bond markets, and are widely used as relatively safe investments.

Related Topics:
Securities - Bonds - Bond market

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Securitization

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Securitization occurs when a company lumps together a group of assets or recievables usually in different tranches determined by the riskiness of the debtor and sells them to the market through a trust. The cashflows from these receivables are used to pay the holders of this paper. Companies often do this in order to remove these assets from their balance sheets and monetize an asset. Although these assets are "removed" from the balance sheet and are supposed to be the responsibility of the trust, that does not end the company's involvement because the company often maintains what is called an interest only strip or first lost piece in the securitization. The piece that the company maintains gets hit first with any losses the trust may incur before any of the other investors see a loss. Meaning that the investor in a securitiztion would get paid in case there are massive defaults and the company who securitzed the assets would not get paid on its portion. The afformentioned brings into question whether the assets is truely of balance sheet given the company's commitment to keeping losses to investor at a minimum. Many rating agencies consider securitization debt because of their commitment to keeping these trusts loss free. If it has a cashflow coming in it can be securitized.

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