What is Special Purpose Vehicle?
Special Purpose Vehicle is an off-balance sheet legal entity that functions as a semi-hidden subsidiary of the issuing parent company. An SPV will hold financial assets in a way that is opaque for investors to analyse.
SPVs are frequently used in structured finance applications such as asset securitisation, joint ventures, and real estate transactions to separate parent company assets, operations, or risks.
Example of Special Purpose Vehicle:
Special Purpose Vehicle (SPV) is a separate legal entity created by an organisation. The SPV is a distinct company with its own assets and liabilities and its own legal status. Usually, they are designed for a specific objective, often to isolate financial risk. As it is a separate legal entity, the special purpose vehicle can carry on if the parent company goes bankrupt.
As a Specific example, if there is a real estate company about to initiate a new real estate project. One way of doing it is to create an SPV for that real estate projects. It would allow the company to make the real estate project more attractive for credit ratings and distance itself from that one project.
Why is Special Purpose Vehicle important?
The most significant benefit is that it aids in risk separation and frees up capital. As a result, an SPV and its sponsoring firm are safeguarded from risks such as insolvency that may develop during operations. Assets can also be securitised through SPVs without disrupting the managerial relationship.