All You Have to Know About Private Debt Financing and How It Works
If you run a business, you would know that generating capital in a short amount of time is no easy feat, especially if it is a private company. You may want to grow your business and take it to the next level. However, there might not be sufficient funds for the expansion. That’s where private debt financing comes in. Learn more on how it works and how it can benefit your company below.
Understanding Private Debt Financing
The investing landscape in Malaysia is no stranger to private debt financing. Albeit private debt was always around, it was never truly the first choice for many companies. The third quarter of 2019 saw a rise in private debt financing in the country with many organizations entering the local private credit market.
Private debts are debts accumulated by private companies from lenders. These debts must be paid at an agreed interest rate within a certain period of time. Since the 2008 financial crash, banks worldwide were affected and had to adopt tighter banking regulations, which resulted in a massive decrease in global lending activities. This then created a void in the market that was soon filled with private lenders from various financial institutions such as hedge funds, credit platforms, insurance groups and business development companies. Besides private institutions, private debt also refers to individuals borrowing from friends and family (peer-to-peer lending).
How Does Private Debt Financing Work?
The process is actually quite straightforward. When a company is in need of working capital, it will approach potential investors to fund its company through the means of selling debt instruments. The investors lend the company a sum of money, which allows the finances company’s growth. In return, the lenders will be paid monthly instalments with interests for the loan. Therefore, in an ideal situation of private debt financing, both the lender and the borrower gain money. However, this is not always the case. See below for the pros and cons:
- Raise capital very quickly.
The process allows borrowers to attain money for business expansion and growth in a short amount of time.
- Control of business.
Private debt financing does not require the company’s ownership to be handed over to the investors and lenders. The company owner will continue to retain the control and decision-making in the company without third party interference.
- No long-term obligation.
When the loaned money is paid back to the lender in full (with interest), the company does not have any more tied obligation to the lender.
- May have to put up collateral.
Most lenders would require collateral to be put up as a guarantee for the loan. This is to ensure that the company pays back the money on time. Collateral is usually asked if the loaned money is high to protect the lender. There is a chance that you can be asked to put down your personal asset as collateral.
- High-interest rates.
The interest rates can be high. If your company is not generating positive cash flow, you can put your company in a deeper financial burden.
- Must have a good credit rating.
Like most loans, private debt financing will only be prioritized and given to companies that have a proven track record of good credit history.
Is Private Debt Financing for You?
Private debt financing helps to drive and stimulate the local economy in any country. Sure, it comes with its own sets of perks and downsides, but if one were to play their cards right, private debt financing can truly make a huge difference and boost the business. Therefore, if you are not sure if private debt financing is for your company, consult a banker to weigh in the pros and cons before making the decision.