The UK government's quest to reform the competition, consumer protection, personal bankruptcy and corporate insolvency law came to an end with the release of the new Enterprise Act last month.
Existing bankruptcy laws have been scrutinized for seeming to encourage security holders to quickly opt for the administrative receiver when a company was in financial difficulties, and placed unsecured creditors in a weak position. The originally proposed abolishment of the administrative receivership would have detrimentally impacted the UK whole-business securitization structure, however, as the rating of these types of transactions is directly linked to the ability to appoint an administrative receiver.
This situation prompted industry sources to petition a carve-out for securitization transactions. "The proposed changes to the Enterprise Bill were designed to support small businesses and hence limit the control that creditors have over assets in insolvency," said analysts at Merrill Lynch. "However, the changes (as currently worded) would threaten the insolvency remoteness of the floating-rate charge and secured loan structure that provides the basis for whole business securitization."
Merrill's analysts noted that since this was not the intent of the law, a carve-out has been proposed by the industry to protect SPVs. So far, however, the carve-out protects only past securitization transactions, and is silent as to any future deals.
Carve-out for ABS
According to Morgan Stanley, to qualify for a capital markets exemption, an agreement must form part of a capital markets arrangement, a party to the arrangement should incur at least GBP50 million of debt, and the arrangement must involve the issue of a capital markets investment.
A capital markets arrangement is defined as such if it involves a grant of security to a person holding it as a trustee for a person who holds a capital markets investment issued by a party to the arrangement; at least one party guarantees the performance obligations of another party; at least one party provides security in respect of the performance of obligations of another party; or the arrangement involves certain types of options, futures and contracts for differences as in the case of swaps. A capital market investment is defined in the act as a debt instrument that complies
with article 77 of the Financial Services Markets Act of 2000, as well as being rated, listed in London or traded, or designed to be rated, listed in London or traded. This rating must come from an internationally known rating agency.
"For the most part, the Enterprise Act is better for securitization than some had feared when the original Enterprise Bill was proposed in 2001," said analysts at Morgan Stanley. "Clearly the capital markets exemptions are good news for the whole business sector."
The government has also introduced an enhanced recovery scheme for unsecured creditors, which would provide for a percentage of floating charges to be reserved for these creditors. Capital market exemptions will not apply in these instances, said analysts. "There is a leakage risk to future whole business securitizations, which should be accounted for in cashflow and rating agency models," said analysts.
The exemption, however, did not reach the scope of the UK commercial paper structure because the trustee does not hold security over the assets for CP holders. These structures are expected to employ the abolishment of the administrator receiver. "This could potentially be circumvented by adding a guarantee, or other features of a capital markets arrangement, into the structure," explained the analysts. Furthermore, banks providing warehousing lending or bridge financing prior to the securitization transaction are also expected to comply with the new act.
For those structures not already qualifying under the exemption scheme, however, securitization market participants have already said there will be structural loopholes in the law. For example, in their provision of warehouse lending or bridge financing prior to the securitization, banks could try several possible structures that would be eligible for exemption.
Three examples of such would be to have the borrower issue notes for more than GBP50 million to the bank, to have the bank issue notes to note holders and on-lend the proceeds to the company, or to have a bank set up a structure that could on-lend more than GBP50million to a number of companies, analysts reported. This raises questions as to how far the industry might move along before the government recognizes such avoidance schemes.
The government may, if it perceives there to be an abuse, introduce anti-avoidance legislation, which could affect whole business deals as well. According to analysts, however, this remains to be seen. The law should be enacted sometime in the spring of 2003.