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By: Wilmington Trust
Many companies, both large and midsize, have realized that the securitization of assets can potentially provide an effective, alternative way to raise working capital. What is asset securitization?
Asset securitization is traditionally thought of as "unlocking" the value of certain assets that a company has on its books. In essence, these assets and the cash flow that accompanies them are used to back new securities which are issued and sold in the capital markets. Securitization can often provide a lower cost and flexible source of funds. It can also help to diversify a company's funding base.
What can be Securitized?
I.e. Assets that can potentially be securitized include the following:
Generally speaking, any asset that generates cash flow has the potential to be securitized.
How are Assets Securitized?
The assets being securitized are typically sold by the original owner or sponsor to a Special Purpose Vehicle (SPV), which is generally an entity created specifically for facilitating the asset securitization. This sale to the SPV removes the assets from the balance sheet of the selling company and helps to create what is known as the "True Sale," which is a critical component of the structure. The SPV, as the new owner under a "True Sale," is created in such a way that it should be "bankruptcy remote," which means that the assets sold to the SPV should not be at risk if the original owner or sponsor of the assets becomes insolvent.
The SPV pays for the purchase of the assets by issuing bonds to investors, either privately or publicly placed, in capital markets. The bonds can bear interest at fixed or variable rates and are typically structured as highly rated investment grade bonds that can attract a broad base of investors. However, to avoid having to register the offering with the Securities and Exchange Commission, these bonds are typically made available only to qualified institutional investors. A high investment grade on the securities is often achieved through a number of means, including over-collateralization and liquidity facilities. The interest and principal due under the bonds is paid from the income stream of the assets that have been purchased.
Limitations on Asset Securitization
Not all assets will be eligible for securitization due to structural risks and insurmountable documentation issues. In order for an asset to be eligible, there are a number of factors to consider. The main factor is whether the deal can be structured to achieve the desired credit rating and therefore attract potential investors. Unliklely assets for securitization include assets that are not widely distributed or widely-held, assets that do not have significant payment histories, or assets that have unusually high default rates. Credit insurance may be used to bring these types of assets back into the pool being securitized, but cost is often an issue.
Maximizing a Company's Assets
Asset securitization can maximize the value of a company's assets. It is especially attractive for companies that have difficulty raising capital at affordable rates using other methods of financing, but have considerable accounts receivable on their balance sheets. An expert in securitization can help you evaluate the costs and benefits of raising capital through securitization.
Updated: January 1, 2013
This article is for informational purposes only and is not intended as an offer or solicitation for the sale of any financial product or service or as a determination that any investment strategy is suitable for a specific investor. Investors should seek financial advice regarding the suitability of any investment strategy based on their objectives, financial situations, and particular needs. This article is not designed or intended to provide financial, tax, legal, accounting, or other professional advice since such advice always requires consideration of individual circumstances. If professional advice is needed, the services of a professional advisor should be sought.
© 2013 Wilmington Trust Corporation.