When a borrower requests a loan at October, we can sometimes ask for a security for the loan. In that case, we agree in the loan agreement what happens in case the borrower is unable to repay the loan. When we ask for a security, this is mostly a personal guarantee, a corporate guarantee or a state guarantee. Securities can reduce the risk of capital loss, because we can fall back on the guarantor or the collateral in case of a default. Moreover, a security can incentivize a borrower to repay the debt, because they don’t want to be held personally liable for instance. Therefore, securities affect the pricing of a loan.
Determining the value of a security
To estimate how much a security reduces the risk of capital loss, it’s important to determine the value of the security in case of default. To do this it’s important to take into account 2 factors:
Coverage of a security: a security is not always for the full loan amount. It depends on the type of security and the agreement with the borrower or third party, what part of the loan amount is covered. A security will normally not pay-out more than the coverage determined in the loan agreement and it will never pay-out more than the outstanding of a loan.
Creditworthiness of a security: it is not guaranteed that a security will (be able to) pay-out. For example, between when the loan is granted and when the security is called, can be a period of economic downturn. Perhaps the guarantor has poured all their assets into the business already and has no more assets to pay-out the guarantee or the borrower saved money on maintenance for the building and the value of the building compared to the mortgage has collapsed. In other words, securities are exposed to risk as well. The more creditworthiness a security has, the higher it is valued. Therefore, a state guarantee is valued higher than a personal guarantee.
At October we take these two factor into account when determining the interest rate for a loan. Securities do not affect the credit score of a project.
Knowing which securities are asked
You can find the securities that apply to a project in the loan agreement that you have with the borrower and sometimes in the project description. A state guarantee is always indicated in the project description.
When securities are called
In a default scenario we will work together with the borrower to normalise the situation. If this is unsuccessful, securities are normally called upon at the end of our recovery procedure. The pay-out of a security can be a lengthy process in case it has to be enforced through the court.