The new spate of negative headlines surrounding specialty medical equipment leasing concern DVI Inc. spread further to its outstanding ABS last week. Two of three rating agencies downgraded DVI's ABS after the Securities & Exchange Commission deemed its most recent quarterly filing deficient after Deloitte & Touche resigned as auditor (see ASR 6/16/03). Questions of whether the programmatic issuer would soon be in technical default on its unsecured debt obligations, leading to a servicing transfer, prompted both Fitch Ratings and Moody's Investors Service to place all the outstanding ABS each agency had rated on watch for a downgrade. Standard & Poor's, meanwhile, remains confident in the current ratings.
Banc One Capital Markets noted in a structured debt market comment that the SEC had "essentially agreed with Deloitte & Touche, DVI's former auditor, that Deloitte's review of the financial statements was not complete at the time of the filing."
The moves from Fitch and Moody's that followed were partially based on the issuer's unsecured ratings being cut - for the second time in as many weeks on the part of Moody's. The downgrades impact almost $2 billion of outstanding ABS. By contrast, S&P, which only rates one DVI transaction, series 2003-1, cited the increased enhancement levels in 2003-1, as well as the ability of backup servicer U.S. Bank to either assume servicing or mediate a servicing transfer, a risk it claims was structured into its triple-A ratings.
Enhancement for 2003-1 was set at an all-in level of 20%, versus the 14% in previous transactions, and featured the inclusion of a 50 basis-point reserve account added specifically to fund a potential servicing transfer.
"S&P felt that given the single-B [unsecured] rating at the time, plus the $155 million in debt DVI has coming due in February 2004, we couldn't give full credit to DVI's history of purchasing delinquent leases out of the trust," noted S&P analyst Felix Hererra. While he stopped short of saying the enhancement levels were boosted as per S&P's request, he pointed out that S&P did not rate any previous offerings.
While Moody's analyst Irina Faynzilberg admits that all of DVI's deals are currently performing in line with expectations, "there is uncertainty associated with the health of the servicer, and there are concerns over the ability of backup servicer (and trustee) U.S. Bank to maintain defaults and loss severity, in the event of a transfer."
To its credit, U.S. Bank does have a unit within its trustee operations that specializes in specialty equipment loan and lease servicing. As noted in Moody's presale report for 2003-1 issued May 22, "this [servicer] risk is addressed by the maintenance by the backup servicer of up-to-date servicing and collections records, the availability of similar expertise at U.S. Bank's subsidiary, which specializes in healthcare finance business." Moody's also cites the 50 basis point reserve account. S&P states in its presale report, "The Portfolio Services group [of U.S. Bank] is capable of taking on the servicing role for the DVI portfolio."
The uncertainty over the future of DVI, as well as U.S. Bank's competence as a backup, had spreads persistently wider for DVI's outstanding ABS. Bids had firmed since news first broke in mid-June. As of the middle of last week, bids for the 2.8-year triple-A rated series 2003-1 A3A notes were anywhere from 80 to 90 basis points over one-month Libor, versus levels between 90 and 100 basis points over just two weeks previous. Buttressing spreads was the mid-week announcement that DVI had hired UBS Warburg to help it review strategic alternatives. Additionally traders reported that strong demand from distressed ABS shops.
Banc One's John McElravey speculated that the best suitor for the DVI portfolio would be a well-capitalized medical equipment manufacturer, which also has a captive finance unit. GE Capital, Hitachi and Siemens are potential acquirers, as are The CIT Group and FINOVA.