Value and Capital Management: A Handbook for the Finance and Risk Functions of Financial Institutions

Appendix DBeyond Debt and Equity

As described in Chapter 19, CFOs and CROs must help their firm choose the right mix of financing on the equity-to-debt continuum, beginning with shareholders' invested funds and continuing on through hybrid, subordinated, senior and collateralized funding, ultimately reaching client-based funding alternatives such as bank deposits or insurance reserves.

Each of these alternatives offers advantages and disadvantages, illustrated by the following important questions.

• To what extent does the alternative qualify as a substitute for shareholder capital under regulatory and rating agency solvency regimes? Related to this, to what extent are external limitations put on the use of different funding alternatives?
• What is the all-in after-tax cost of funding for the different alternatives, including interest and tax considerations, structuring and credit-enhancement expenses and, especially for securitized financing alternatives, additional effects in the form of reducing risk capital requirements and the ability to increase volumes by relaxing other leverage restrictions.
• Finally, how sustainable is the source of funding under different scenarios, for example a crisis in confidence or “run on the bank,” a shock to inter-bank funding liquidity due to a flight to quality or other systemically relevant event? Liquidity and funding risk considerations are examined in greater detail in Chapter 18.

The remainder of this appendix provides a brief overview of ...