SOUTH BEACH, Fla. - A hot theme at last week's SRI's ABS Industry Summit was the role of servicers, particularly backup servicers. As a result of investor and rating agency pressure, the backups are likely to increase their involvement in the primary servicing of deals, more so for troubled sectors or names.
In the turbulent equipment-lease sector, for example, investors called for experienced backup servicers having structure and pool data in their systems, which would expedite a transfer so the replacement servicer would be up running without missing a month of payment activity.
Of course, as a result of this increased role, fees for backup servicing have already increased, something issuers view as "a cost of doing business," noted Steve Frederick, executive vice president at specialty equipment shop Frontier Leasing. "If an issuer does not like the increased fees, they should get out of ABS," he added.
Across most sectors, gone are the days of the trustee as backup servicer, sources said. Additionally, at SRI, a move was on to eliminate the terms "cold" "warm" and "hot" backup servicers. Nick Goumas, a managing director at Ambac Assurance Corp., said his firm would require financial covenants in transactions it insured. The covenants would be aimed at protecting and enforcing servicing agreements and preventing backup servicers from neglecting responsibilities before the primary servicer is insolvent.
Gerry Levine, vice president at State Street Global Markets, said that investors are looking at servicing more closely and that they view the quality of the backup servicer and its classification on the cold-to-hot scale inversely with the credit quality of the issuer. "Cusp companies, with limited issuance histories, troubles in the past, or below-investment-grade ratings, will need strong backups, and vice versa."
The market seems to be learning from past mistakes, evident in the rating agencies development of methodologies for rating ability and performance of servicers. Rich Drasen, a director at Fitch Ratings, said Fitch conducts servicer reviews every 18 to 24 months. These reviews include an evaluation of the seller/servicer's chargeoff policy and its customer service. Fitch asks, but does not require, that servicers conduct independent audits of their operations.
With regards to the recent NextCard failure, Mark Dola, a senior associate at law firm Jones, Day, Reavis & Pogue, argued that the market should look at servicing fees in trusts, and assume a worst-case scenario. As seen in NextCard, if the servicing fees on a portfolio are not profit generating, then something may be wrong. Dola said this was one of the reasons that the regulators required NextCard to bring $600 million in securitized loans back onto its balance sheet.
Similar to the sentiment across all areas of ABS, added scrutiny is viewed as a long-term positive, even if some rough patches lie ahead. As for the increased fees paid to backup servicers, Leasedimentions Vice President Matt Murray said, "The duties for backups have expanded, and this trend has raised the bar for primary servicers. This can only increase efficiency and lower the costs of doing business in the future."