A company is said to take leveraged finance support when it takes a loan of an unusually large sum of money as debt for the acquisition of investment assets on the assumption that the assets will appreciate in value over a certain period of time, thus increasing the potential ROI of the company at the same operational efficiency as compared to the assets accessioned at the usual rate. This option of financial support is offered by hedge funds, collateralized loan obligations (CLOs), insurance companies, and mutual funds. The leveraged finance issuance in the US was recorded at a whopping $ 750.1 billion during the initial six months of 2020. For the same period across Western and Southern Europe, leveraged finance issuance was an impressive US$196.7 billion.
When should companies take leveraged finance support?
The success of leveraged financial aid taken by a company to achieve its objectives is based on three main factors: The accuracy of the company’s predictions of the future appreciation of its investment assets, the impulsive shifts in the country’s economy, and the balanced stability of the industry in the market. The decision of taking the support of a leveraged financial loan is considered to be favourable when the profit of the company is greater than the total cost of debt it is under due to the tremendous growth in ROI.
What Are the Advantages of Leveraged Finance Support?
- Significant growth of shareholder profits:
For a business that is completely financed by the valuation of the shares it holds, then, under regular circumstances, the profitability of the business will directly affect its profitability to the shareholders. However, in the case of the business using leveraged finance, the deposits required for debt sustainability will be independent of the increase in its profitability. This cap on payment implies that now, the entirety of profits of the company can be put to more finance use, that is, excess profits can be passed to the shareholders, thus incrementing the equity of dividends to a higher degree than would have been possible by increasing the operational efficiency of the company.
- Escalation of credit rating:
The successful functioning of a business working on leveraged finance support attracts easy loan approvals from banks that would have otherwise shown reluctance to such a high-risk decision. Also, the profitability of the business would mean better loan repayment ability, leading to improvement in the credit rating or the loan worthiness of a company.
- Scope of business expansion:
When a business takes a loan of an unusually large sum of money, it has an opportunity of developing and amplifying business operations. Leveraged finance is ideal for large acquisitions, share repurchases, and management buyouts as it sets a threshold for business expansion. A company can take advantage of this means of financing when it has a definite development target in place to achieve, as it can prove to be better than debts.
- Multiplied power of capital:
When a company takes the support of leveraged lending amounts and successfully turns it into gainful business, it acquires access to substantial capital. Leveraging exponentially is like using rocket fuel. It multiplies the potential of every monetary unit invested because of the multitudinous returns on investment. Also, despite the increased volatility of the earnings of the company, there is an increase in the liquidity of funds, and in turn, greater availability of free cash in the company, since the loan repayment is to be done in small installations over a significant duration of time.
The decision of taking leveraged finance support is a complicated one to take and a definite game-changer. It is recommended that a firm or a professional with expertise in arranging for leveraged financial support is taken on board for offering valuable insights and critical guidance. Before applying for this financial loan setting, a business must ensure that there is sufficient temporary funding to support it through the failure of the arrangement. It must be prepared for the high risk and complexity that leveraged financial aid carries.
With accurate analysis of market trends and the economic status of the country, leveraged finance support can prove to be extremely advantageous to a business looking for a scope of expanding its profitability.