Securitizations of loans to Spanish small and medium sized enterprises (SME) facing trouble on two fronts: rising corporate insolvencies and new legislation on debt refinancing and restructuring.
In a recent report, Fitch Ratings said that a legislative reform that went into effect March 7 could inject uncertainty into the cash-flow and recovery expectations on SME loans, as the original repayment terms can be altered.

The new law makes it easier for bank creditors and troubled compies to come to an agreement before insolvency proceedings begin. For the agreement to go into effect it must have 51% support from the financial creditors and allow the company to remain viable. 

Fitch believes this new approach would “provide incentives for highly leveraged companies to pursue and formalize restructuring plans that would not be possible or as easy otherwise.”

Under the new regime, modifications that are possible if at least 75% of financial creditors agree include extending loan maturities up to 10 years, payment-in-kind arrangements, principal haircuts and debt-to-equity conversion. If 60% of creditors agree, maturities can be termed out to five years.

These same terms can apply to secured loans provided that 80% of secured creditors agree for the more drastic batch of modifications or 65% agreefor the maturity extension to five years.

The upshot?

“Lenders may increase pricing on new loans to account for the added uncertainty they would face if they found themselves minority creditors forced to accept a restructuring or refinancing plan they have voted against,” Fitch said.

“[But] the new law is not automatically leading to any rating actions, [as] “the agency already incorporates credit loss expectations for this sector that anticipate stresses above the long term observations,” said senior director Juan David Garcia. “As the implementation of restructuring plans need the majority vote from creditors even up to 80% in some cases, the concrete implications of this law remain to be seen in practical terms” he added.

Garcia said the Spanish government is particularly concerned about SMEs since they are big employment generators and joblessness is currently at 26%.

While the market works through the implications of the refinancing-and-restructuring law, SME collateral in existing securitizations is likely to get hit by a tidal wave of corporate insolvencies in Spain, which hit a record in 2013.

In a recent report, Moody’s Investors Service said insolvencies are a strong predictor of SME pool performance. As a result, the agency does not expect collateral to perform any better in 2014. And while the most beleaguered loans will remain those in real estate and construction, those outside the sector will see defaults head north, according to Moody’s.

And there is more.

“The rise in SME insolvencies increases the average recovery lag on defaulting loans, which is also a credit negative for Spanish SME ABS transactions,” the agency said.

The country’s National Statistics Institute reported that Spanish corporate insolvencies hit 8,934 in 2013, up 10% from 2013 and a nine-fold leap from 2006. The table above shows how tight the correlation is between the number of insolvencies and the performance of collateral in SME securitizations.

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