Method of securitizing a portfolio of at least 30% distressed commercial loans

Abstract

A platform and a securitization methodology that provides lenders with an opportunity to maximize the returns on their distressed commercial credit facilities and overcomes the obstacles that have historically precluded the securitization of distressed commercial loans. The present invention is based upon an underlying portfolio of at least 30% distressed commercial loans for securitization that emulates the predictability and regularity of the cash flow and recovery characteristics of a portfolio of generally performing commercial loans, thus eliminating crucial historical barriers to securitization of such distressed commercial loans, such as the absence of predictable and regular cash flows and predictable recoveries. The methodology of the present invention takes a specific mix of distinct classifications of distressed commercial loans with specified characteristics in confluence with structural specifications, such as specific reserves and safeguards, to create a synthetic asset class that emulates the characteristics of a portfolio of performing loans.

Description

CROSS REFERENCE TO RELATED APPLICATIONS[0001]This application is a continuation of U.S. patent application Ser. No. 10 / 621,443, filed Jul. 18, 2003, which is a continuation of U.S. patent application Ser. No. 10 / 053,925, filed Jan. 18, 2002 (now U.S. Pat. No. 6,654,727, issued Nov. 25, 2003), and claims priority of U.S. Patent Application No. 60 / 334,344, filed Nov. 29, 2001, the contents of all incorporated herein by reference.BACKGROUND OF THE INVENTION[0002]1. Field of the Invention[0003]The present invention relates generally to asset securitization and, more particularly, to a system and method for use in securitizing a portfolio of at least 30% (and up to 100%) distressed commercial credit facilities, such that all of the securities above the equity or equity-like tranches issued by a bankruptcy-remote special purpose entity to finance the acquisition of the portfolio of distressed commercial credit facilities are eligible to receive investment grade ratings.[0004]2. Descriptio...

AI Technical Summary

Benefits of technology

[0015]The present invention offers a platform and a securitization methodology that provides lenders with an opportunity to maximize the returns on their distressed commercial credit facilities and overcomes the obstacles that have historically precluded the securitization of distressed commercial credit facilities. The present invention is based upon an underlying portfolio of at least 30% (and up to 100%) distressed commercial credit facilities for securitization that emulates the predictability and regularity of the cash flow and recovery characteristics of a portfolio of performing credit facilities, thus eliminating crucial historical barriers to securitization of such credit facilities, such as the absence of predictable cash flows and recoveries. The methodology of the present invention takes a specified mix of distinct classifications of distressed credit facilities with specified characteristics in confluence with structural specifications for an SPE, such as specific reserves and safeguards, to create a synthetic asset class that emulates the cash flow and recovery characteristics of an SPE containing a portfolio (which may be of dissimilar size) of performing credit facilities. As such, the portfolio of distressed credit facilities is amenable to securitization and the issuance of asset-backed debt securities (above any equity or equity-like tranche or tranches of securities issued by the SPE) all of which are eligible to receive investment grade ratings.

[0017]The benefits of the present invention to a lender include the improvement of important financial ratios monitored by credit rating agencies and financial analysts, such as the ratio of non-performing loans to assets, the ability to free up valuable economic and regulatory capital and the opportunity to outsource the time-intensive and resource-expensive workout effort. Given identical default and recovery parameters (e.g., 50% of the loans will be in default of current interest payments within 18 months; those that have defaulted will not pay interest for two years; those that default will recover at best, for example, 60% of par (face) value; and those that do not default will recover, for example, 85% of par value), the methodology of the present invention provides a lender with a more cost-effective alternative than maintaining the distressed commercial credit facility portfolio on its balance sheet and utilizing its internal workout effort to manage and collect the loans.

[0018]The present invention also allows the lender to replace the distressed commercial credit facilities on its balance sheet with cash and investment grade assets with an aggregate value likely to be substantially greater than the amount the lender otherwise would have received in a “straight sale” for cash to a distressed asset investor or other third party. Furthermore, the methodology of the present invention also allows a lender to remove distressed commercial credit facilities from its balance sheet with the opportunity of receiving economic benefits likely greater than would be realized on a net discounted cash flow basis through internal workout efforts by the lender if the lender had retained the distressed assets.

Problems solved by technology

A credit facility is considered “distressed” if the borrower's financial ability to honor its obligations comes into question.

Not all distressed credit facilities are in default (e.g., as recognized by Standard & Poor's (“S&P”), a company may be current on its bank loan obligations while being in technical or financial default on its other subordinated debt, resulting in significant near-term risk that the borrower will ultimately default on its obligations) (Albulescu, Henry, Bergman, Sten, and Leung, Corwin, “Distressed Debt CDOs: Spinning Straw Into Gold,” S&P Structured Finance, May 7, 2001, hereafter, “Spinning Straw Into Gold”).

If a lender is a bank or other regulated entity, such distressed assets may subject the lender to increased capital requirements and regulatory scrutiny.

Lenders previously have had a limited number of alternatives for dealing with distressed credit facilities.

This option, however, imposes a number of additional costs on the lender.

The process of working with problem borrowers to recover on distressed credit facilities is time-intensive and requires special skills and resources of a lender, often not readily or plentifully available to the lender on a cost-effective basis.

Retaining distressed assets may further risk giving interested third parties, such as regulators, stockholders and financial analysts, a negative perception of the lender's portfolio quality and management acumen, and may expose the lender to potential further loss if a distressed borrower's creditworthiness continues to deteriorate.

However, it is a costly remedy because of the immediate and likely steep losses that the lender incurs as a result of the sale at a discount.

Traditionally, there has been little market for a “one-by-one” sale of distressed credit facilities; to the extent such a market has existed, it has been characterized by punitive pricing and illiquidity.

Middle-market syndicated loans (i.e., aggregate credit facilities of less than $100 million, for example, with five or fewer lenders participating in any of the credit facilities) and single-lender facilities often can be sold only to predatory investors in bulk-loan sales at substantial discounts, again resulting in steep losses to the lender.

Loan losses from such sales not only have obvious economic repercussions, but also generally have unfavorable effects on the financial institution from the perception of interested third parties (e.g., regulators, investors and financial analysts) who may interpret the loan losses as an indication that the lender's assets generally are of poor quality and that the management of the lender is imprudent or incompetent.

As a result, lenders, hoping to minimize their losses, often resort to the liquidation of borrowers with distressed credit facilities at much reduced recoveries.

Each of these options has a number of significant disadvantages for a lender.

Because virtually any portfolio of outstanding credit facilities is likely to include some distressed credit facilities, lenders almost invariably are required to devote substantial time and capital to developing and implementing acceptable strategies for handling their distressed credit facilities.

Securitization of distressed credit facilities has previously generally been unavailable as an alternative for lenders.

On the other hand, portfolios which include, for example, 30% or more of distressed commercial credit facilities previously have been characterized by the unpredictability and irregularity of their cash flows (sometimes referred to as “lumpiness”) and recoveries resulting from the low quality of the distressed debt assets comprising a substantial portion of (or all) the portfolio.

Without the ability to obtain investment grade ratings, it was impractical for a lender to securitize a portfolio of distressed commercial credit facilities because it would be too costly to support the interest cost of the asset-backed debt instruments issued in the securitization above the equity or equity-like instruments issued (investment grade securities generally bearing a significantly lower interest rate than non-investment grade securities).

However, for an SPE whose underlying assets include 30% or more of distressed commercial credit facilities, a substantial portion of the loans in the pool are either already defaulted or expected to default.

Thus, stressing defaults as a principal focus would not properly demonstrate the likely performance of the portfolio.

Images