Despite troubles in the auto sector, dealer floorplan ABS have gained ground. Just last week Nissan Motor Acceptance Corp. came to market with its $750 million dealer floorplan offering. And for the January 2010 TALF subscription period, only Ford Motor Credit Co.'s floorplan deal was included. Another floorplan deal came down the pike in January - Morgan Stanley Resecuritization Trust 2010-F. Aside from the obvious rise of deal volume in the sector, rating agencies have also made revisions to their existing criteria to include the manufacturer's risk as it relates to the dealership networks.
At the end of last year, Fitch Ratings published its revised criteria on dealer floorplan ABS deals. The new approach classifies the dealer floorplan platform into two systemic risk categories. Category A consists of relatively low-systemic-risk platforms that generally have high product and manufacturer diversification.
By contrast, Category B, which is the key revision to the criteria, represents a comparatively high-systemic-risk platform that has low product and manufacturer diversification as well as a heavy reliance on manufacturer sponsorship or support.
"When we started revising our criteria, one of the challenges was assessing and addressing the operating and logistical interlinkages between a manufacturer and the dealerships," said David Petu, a director at Fitch. "Could the dealer network survive a disorderly liquidation of a manufacturer for a non-diversified dealer floorplan platform or would such an event result in dealer defaults at a catastrophic scale? How would manufacturer and product diversification impact the risk profile of a dealer floorplan platform? The analysis of those questions led to a differentiation of platforms by systemic risks inherent in the dealer floorplan financing arrangements."
The rating agency looked at four systemic risk drivers: product diversification, product type, manufacturer IDR and diversification and manufacturer support.
One of the key elements, specifically in Category B, is getting to the bottom of how strong the dealership network is, separating it from the headline risk surrounding the manufacturer.
Fitch uses the utility approach for Category B, "where we assume a high dealer default frequency assumption regardless of the default risk of the manufacturer and in doing so, effectively de-link the rating of the transaction from that of the manufacturer," explained Ruchira Dabas, a director at Fitch. She added that for Category B, what becomes critical is the inventory itself. To what extent, for instance, does the large-scale liquidation of inventory depress wholesale values? Will a timely and orderly disposition of this inventory be possible through established channels? "Fitch places a notable emphasis on operational risks where we look at whether it's logistically feasible to collect on the collateral in the event of large-scale dealer defaults," she said.
Petu said that another component of Fitch's criteria is its reliance on information or data regarding the dealership networks for both categories. "In the Category B, we establish a frame of reference of a clear de-linkage of the manufacturer's financial health and dealer floorplan transaction ratings by taking a top-down dealer default approach with 100% dealer network default assumption at the onset for a 'AAA' rated bond," he said. "A small percentage of dealers are than revived based on Fitch's analysis of dealer network. Such an approach is conditional on us receiving granular dealer network information such as percentage of single franchised versus multi-franchised dealers, their sales levels and other dealer-specific data."
Moody's Investors Service recently published its rating approach to floorplan ABS. In the report, which was released in January 2010, the rating agency explained that even though this asset class has a revolving structure similar to credit card deals, the rating agency approaches floorplan transactions differently given the unique characteristics of this type of financing.
The agency's rating addresses the ultimate payment of principal by the legal final payment date of the securities. According to the Moody's report, principal collection on existing floorplan loans is reinvested in newly originated dealer floorplan loans. The reinvestment allows the structure to maintain receivables to back the bonds for terms that are well over the comparatively short average life of a dealer's individual floorplan loan. The rating agency further explained that investors as well as the seller or the lender each own a pro rata share of receivables pledged to the trust, and thus share their pro rata share of interest collections over the revolving period.
"There is risk linkage to the rating of the manufacturer in a floorplan deal," said Mack Caldwell, senior vice president at Moody's. "The fortunes of the dealer are inextricably linked to the manufacturer. The required credit enhancement takes into consideration the disruption in the manufacturer's operation in order to delink floorplan ratings from the manufacturer's rating." Caldwell said that in the recent Ford transaction, part of the reason Moody's felt comfortable rating it was because Wells Fargo - a company that has experience with its own book of floorplan loans - was a backup servicer on the deal.
Moody's said that if an early amortization occurs, it would trigger the start of an early amortization period for the trust. Auto dealer floorplan deals, according to Moody's, typically have an early amortization event happen when a manufacturer, seller/servicer or issuer bankruptcy happens or when the three-month average payment rate dips below a predetermined transaction level payment rate trigger. The rating agency noted that some dealer floorplan deals also have an early amortization event associated with a predetermined level of depletion to the cash reserve account.
In its criteria report, Moody's discussed the potential effect of a manufacturer failure on the different aspects of auto floorplan asset performance. These various factors include the decreased consumer demand and consequent dip in principal payment rate, reduced recovery rates, increased dealership defaults and impaired servicing capability for captive floorplan sellers/servicers, among other things.
Despite the recent failures of the big auto manufacturers, Caldwell said that this has been a relatively stable asset class. "These securitizations have been structured since the early 1990s, with relatively stable payment rates that are above the payment rate trigger," he said. "Historic volatility in the asset class has been low. There are some improving portions of the underlying manufacturer operations, and most of the enhancement levels have now increased, enabling these deals to maintain a triple-A ratings."
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