Unsubordinated Debt

Definition

Unsubordinated debt refers to loans or securities that are ranked above other debts in case of bankruptcy or liquidation. Their holders are the first to be compensated if assets are liquidated. It is considered less risky for investors because of its prioritized status, hence it typically comes with lower yields.

Phonetic

The phonetics of the keyword “Unsubordinated Debt” is: ʌn-soʊ-bɔr-dn-eɪtɪd dɛt

Key Takeaways

<ol><li>Unsubordinated Debt is a type of loan or security that ranks below other loans or securities with regard to the order of claims to assets or earnings in case of a default. This means that in an event of bankruptcy, these debt holders can claim their investments only after the recovery of lesser risky, or “senior” debts.</li><li>Due to its higher risk nature, Unsubordinated Debt often carries higher interest rates when compared to senior or more secure debts. This is to compensate the investors for the increased level of risk associated with the investment.</li><li>Lastly, despite its riskiness, Unsubordinated Debt can offer substantial benefits for savvy investors. Under stable conditions and if the company performs well, the investor would earn much higher returns. Therefore, Unsubordinated Debt can be a viable investment tool, mainly for high risk-tolerant investors.</li></ol>

Importance

Unsubordinated debt is a significant term in the field of business and finance due to its nature and implications on the creditworthiness and repayment hierarchy of a business. As opposed to subordinated debt, unsubordinated debt or senior debt holds a high priority during repayments in case of a bankruptcy or liquidation event. The creditors who own unsubordinated debt are repaid first before other parties, reducing their risk exposure. This superior position makes it a comparatively safer investment, oftentimes translating to a lower yield due to reduced risk. Therefore, its existence and handling can significantly impact the interest rates, credit ratings, investment attractiveness, and overall financial strategy of a business.

Explanation

Unsubordinated debt is a type of loan or security that takes precedence in liquidation of the issuer’s assets. The primary utility of unsubordinated debt is to provide an avenue for raising capital under less-risky circumstances from the perspective of the lender or investor. Issuers, be they corporations or governmental bodies, resort to unsubordinated debt chiefly when they need to secure a low-interest loan, because these types of loans tend to attract lower interest rates owing to their less risky nature. Unsubordinated debts are often used by businesses to finance large capital-intensive projects or to maintain liquidity during a crunch. As they have first claim on an entity’s assets – in case of default or bankruptcy – they are more appealing to conservative investors and institutions like commercial banks, insurance companies, and pension funds. These investors are willing to accept lower yields for the added security. Hence, unsubordinated debts are fundamentally devised to minimise the cost of capital and facilitate lending and borrowing for enterprises.

Examples

1. Corporate Bonds: When a company issues unsubordinated debt in the form of corporate bonds, it implies that the bondholders have a primary claim on the company’s assets in case of insolvency. For instance, in 2008, when Lehman Brothers filed for bankruptcy, the holders of unsubordinated debt were among the first to receive compensation from the company’s liquidated assets.2. Government Securities: When a government wants to raise funds, it can issue unsubordinated debt in the form of government securities. In case of default, buyers of the securities would have a primary claim on the government’s assets. For instance, U.S. Treasury bonds are unsubordinated debt, meaning they are backed by the “full faith and credit” of the U.S. government. If the U.S. government were to default, holders of U.S. Treasury bonds would be on first in line for repayment.3. Financial Institution Loans: Many financial institutions, including banks and credit unions, have unsubordinated debt in the form of loans. If a bank becomes insolvent, the holders of these loans (the depositors and other creditors) have a priority claim on the bank’s assets over any subordinated debt. For example, in the event of bank failure, depositors and other creditors are first in line for any potential repayment from the liquidation of the bank’s assets.

Frequently Asked Questions(FAQ)

Related Finance Terms

• Senior Debt
• Credit Risk
• Subordinated Debt
• Credit Rating
• Default Risk

Sources for More Information

• Investopedia
• Corporate Finance Institute
• Finance Zacks
• The Balance