By Damian Thompson, Duff & Phelps Credit Rating Co
Duff & Phelps Credit Rating Co. (DCR) expects the combination of the European Monetary Union, recent changes in the law, and banking industry consolidation to provide a major boost to securitization volumes in Italy a market which has been growing slowly to date.
Since May 29, 1999 when the new securitization law came into effect, it has become possible to efficiently structure a securitization through an Italian special purpose vehicle and thereby issue securities in Italy. Changes in the treatment of SPVs, in the rules for the transfer of assets, and in the taxation treatment of the securities issued have been credited, making the process of structuring, rating and selling Italian securitization transactions significantly more straightforward.
DCR is already seeing an increased interest in Italy. Transactions financing non-performing assets will generate much of the initial rise in volume, with a number of bank-originated transactions under development. The government is also expected to be a major issuer through its well-publicised proposal in which non-performing social security receivables owned by INPS, the Italian social security agency, will be securitized. However, there are well-established precedents for transactions in other sectors including residential mortgages, leasing, and intellectual property. DCR expects these sectors to see increased issuance volumes in the coming months also.
The following summarises the major points of interest in the new law as DCR sees them, and a view as to how the transaction process might be impacted.
The law does not exclude any asset types, including both existing and future receivables, requiring only that they be "individuabili in blocco". This, we understand to mean, simply implies a requirement for homogeneity amongst the assets. There appears to be some dispute as to exactly what needs to be done to allow future receivables to be purchased, although not that it is possible.
Securitization SPVs have been exempted from the limit on companies issuing debt greater than the size of their capital base. Previously, this made securitization transactions, which are typically very highly leveraged, effectively impossible through Italian companies. There remains some uncertainty as to exactly what legal form the SPV may take, which may affect the amount of share capital that will need to be issued, although the maximum is ITL200 million ($105,000).
Assets can be purchased directly by the SPV, removing the need for transactions to be structured through the purchase of receivables via a bank, or well-capitalised financial intermediary. This dramatically simplifies the process, and from a rating perspective removes the need to factor the credit strength of the intermediary into the analysis.
The law provides for an SPV to issue more than one transaction, with the important provision that by law, the assets for each are fully ring-fenced between each other, and from any other creditors of the SPV. This is an important supporting factor to the important question of the "bankruptcy remoteness" of the structure, i.e., the insulation of the structure from the bankruptcy risk of external counterparties, or internal elements.
Perfection of Asset Transfers
The law has simplified the methods by which notification needs to be given to generate a valid transfer of the assets. All that is now required is notice of the sale to be published in the Official Gazette. Importantly, once this requirement is met, the assignment is enforceable against competing, but un-enforced or unregistered claims on the assets, as well as the underlying debtors themselves. This makes for a robust "true-sale" position, which is a key requirement in the legal analysis of securitization transactions.
Aside from the simplification and "true-sale" benefits of the notification method, it also significantly reduces the potential costs of mortgage-backed transactions, which previously required individual notification at the land registry at a cost in excess of two percent.
The law also overrides (for qualifying securitizations only) provisions in the Bankruptcy Law, allowing the "claw-back" under certain circumstances of transactions entered into one to two years prior to insolvency of a company. This period has been shortened to between three and six months. This significantly reduces the risks DCR previously associated with this possibility.
Requirements for Distribution of Bonds
The law includes sensible requirements for the issuance and minimum content of offering circulars, with less restrictive requirements for transactions sold purely to professional investors a definition found elsewhere in Italian law and one which holds no surprises as to who is included.
A public offering of the bonds will require that they are rated by (undefined) third-parties. Further regulation appears to be expected in this regard from CONSOB, the Italian stock exchange supervisor.
The law requires that servicing be undertaken by a registered Italian bank or financial company, or non-Italian banks authorised to operate in Italy. It is not clear if this can be delegated to the originator if they do not fall into this category as they will not, for example in trade receivables, or intellectual property transactions. This may mean that compliance requires a degree of structuring in certain transaction types.
One of the most important elements of the new law is the withholding tax classification of the bonds issued in a securitization. They will now be equivalent to bonds issued by listed stock companies, which means that they will be subject to a deduction of 12.5% on interest payments to certain Italian resident institutions and individuals. However, resident "commercial" entities and non-residents in countries subject to an appropriate double tax treaty with Italy will be exempt from the withholding tax. This represents the removal of the significant impediment to progress in the market that the previous withholding tax classification represented.
Unusually, the law permits beneficial treatment of losses incurred on transfer of assets, for transactions undertaken up to two years after the law came into place. The losses can be allocated directly to the balance sheet, but can be taken through the profit and loss account over a five-year period. This appears to be a concession to the significant volume of non-performing loan transactions expected to be undertaken. This treatment will moderate the P&L distortion that the likely write-down on sale of the assets would cause if fully recognised in the year of sale.
Overall, the law goes a very long way to satisfying the market's demands for a clear and sensible approach to the regulation of securitization transactions in Italy. Whilst certain points remain subject to some debate, these are not central to the law, and as a result, DCR expects a strong flow of transaction structured under the new law to be forthcoming during the remainder of 1999.
This article is an excerpt from DCR's special report, "Securitisation in Italy, the Law is the Law".