A special purpose vehicle (SPV) or special purpose entity (SPE) is a subsidiary company formed from a parent company to caution it from financial risks. A special purpose vehicle has its legal structure. Its liabilities and assets are also different from the parent company. Here is a detailed explanation of everything that you should know about special purpose vehicles.
Uses of Special Purpose Vehicle
Special purpose vehicles are usually formed as corporations, partnerships, or trusts companies. The main objective of an SPV is to conduct specific businesses outside the primary company.
A special-purpose entity has independent management and ownership. A subsidiary company allows the parent company to isolate assets when investing in joint ventures with other companies and investors.
SPVs are also serve as a tool for securing loans. An SPV acquires assets by sourcing funds from the parent company through debts or obtaining capital from other interested investors.
SPVs are essential when a company is selling its properties and when raising capital. For instance, if a company realizes that the capital gain from selling a property will be less than the taxes, the firm can set up an SPV to own the property intended for sale. The parent company can then sell the SPV and pay taxes from the money received rather than directly paying the taxes from the property sales.
Benefits of Special Purpose Vehicles
One of the key benefits of an SPV is that the parent company gets to protect its assets and funds. Setting up a special purpose entity helps the parent company improve its liabilities and assets management. In return, this lowers its risks and improves its credit rating. The parent company also enjoys good financial flexibility.
Setting up an SPV gives the parent company the freedom to make risky financial transactions without worrying about the future of the company. The parent company cannot suffer any financial loss when an SPV is bankrupt or when it loses an investment.
SPVs are relatively easy to create. The creation of SPVs is relatively cheap as they do not require any governmental authorization. The whole creation process can take about a day to two to finish as less paperwork is required.
Administration and structuring of SPV are also easy. Parent companies can outsource administrative services from organizations such as Assure SPV management services, which helps SPVs reduce administrative costs. It also allows SPVs to raise capital.
The parent company may enjoy tax benefits when they create SPV in some regions. Some countries, such as the Cayman Islands, offer the parent company a tax haven when creating an SPV in the country.
Risks of Special Purpose Vehicles
There are various risks involved when setting up and running an SPV. An SPV may lack clear transparency as there are multiple layers of securities involved. It is difficult to track and monitor all the risks involved and where they lie.
Setting up an SPV may pose liquidity risks to the parent company. It may be difficult for the parent firm or investors to liquidate its assets in an event where the SPV is not performing well. This is also one of the reasons why most companies shy away from creating SPVs.
Poor performance of an SPV can jeopardize the relationship between investors in a special purpose entity and the parent company. Investors might lose trust in the parent company and end up withdrawing their assets.
The parent company usually holds a more significant percentage of assets in special purpose vehicles. The parent firm may be forced to save the SPV when it is on the verge of collapsing in order to protect its equity. This is because the SPV might sell the assets at a lesser price which may also reduce the company’s equity in the SPV.
Poor performance of SPV might put the reputation of the parent on the line. However, this does not insinuate that the parent firm will jump off the ship when SPVs encounter problems.
The creation of SPV has resulted in the expansion of companies. Parent companies have benefited from SPV as they have helped raise capital and isolate their assets. Investors should be careful when investing in SPV to avoid losing their investments.