Despite the fact that Franchise Mortgage Acceptance Corp., one of the sector's largest issuers, kept to the sidelines this year (see Whispers p.14), the franchise loan sector showed significant development, as tiering - or brand name-style pricing - entered the mix, indicative of a maturing asset class, said industry players.
"This is the first year we have seen a noticeable tiering of issuers and transactions by investors when considering investment alternatives," said Russ Burns, a director at Prudential Securities. "This differentiation occurs as markets mature and is not unique to the franchise sector."
It's just been these last few years that there's been enough volume in the market to make judgements, Burns explained.
"Many issuers now have a longer track record regarding asset performance," he added.
Steve Schmitz, chief investment officer at Franchise Finance Corp. of America, agreed that tiering has been a development this year, and suggested it's in large the result of a change in volatility.
"I would say that because of a number of defaults that some of the issuers experienced, it caused some skiddishness on the part of the bond buyers," said Schmitz. "And so we would look for continued sorting out, and continued differentiation among issuers in this segment."
As opposed to sheer volume, Burns and others familiar with the market feel there will be significant growth in the diversity of loans included in franchise sector.
"Growth of the franchise securitization market is primarily attributable to a broadening of the definition of franchise," said Burns. "Initially, franchise securitization focused exclusively on loans to the chain restaurant industry."
Kent Becker of Moody's Investors Service said, "We may be seeing more diverse pools consisting not only of restaurants, but also of gas and convenience store', and maybe some auto dealers here and there, and other mixed types of loans."
In the next few years, Becker speculates an odd assortment of loan types could enter portfolios, such as loans to funeral homes, churches, bowling alleys, and drug store chains.
"I wouldn't be surprised to see those types of loans in future pools," said Becker. "But the key point is, going forward, I think the restaurant and gas and convenient stores' will dominate the loan pools next year."
As you branch into other loan types, however, you face some inherent difficulties, Burns said, because investors are often more comfortable investing in collateral they are familiar with.
"It is often difficult to demonstrate the merits of a particular industry to investors," said Burns. "For example, many investors are located in the Northeast which has a dearth of true convenience store/gas station combinations. Such facilities are more common elsewhere in the country, where their importance and branding are more tangibly felt and understood."
The first franchise loan securitizations were done in the early 1990's, and until recently, the collateral had been primarily restaurant loans. It wasn't until 1997 that the market broke into the billion-dollar range of issuance. This year total deal volume should near $3 billion.