DEBT SECURITISATION

What is Securitisation

Parties to Securitisation

Borrower

Lender

Trustee

Investor

Let us take an example

Ravi takes a loan from Sunil Loan is granted as per the terms and conditions of the loan Sunil provides loans to various other people on similar terms and conditions In other words or say in Accounting/Finance language, all these loans are RECEIVABLES for Sunil as he has to receive or recover those loans back! All these receivables are ASSETS for Sunil as per accounting norms All these pool of assets is transferred in favour of Special Purpose Vehicle (SPV) or a trustee

Further down.
Now the trustee issues these securities to an Investor The Lenders income is usually the difference between interest on loan receivable from the borrower and interest paid to investor

PRACTICE AND UNDERSTAND

DELIGHT FINANCIAL SERVICES HAS ISSUED FOLLOWING LOANS Name of Loan Taker Type of Loan Loan Amount Rate of Interest

Prachi
Vamsi Rakesh Yamuna

Housing Loan
Car Loan Car Loan Housing Loan

10,00,000.00
5,00,000.00 5,00,000.00 15,00,000.00

10%
12% 12% 10%

What are the receivables for Delight Financial Services or say POOL OF ASSETS

PRACTICE AND UNDERSTAND

Now Delight wishes to securitise this and step in the process of taking it down to the investor Can you tell the steps in this process?

SECURITISATION OF FINANCIAL ASSETS

Why Securitisation: 1. 2. 3. A convenient mechanism to suit changing needs of borrowers and lenders Matches supply of funds with demand demands for funds through floating negotiable securities Shifts the source of repayment from earning to a pool of assets

SECURITISATION OF FINANCIAL ASSETS

Elements of Securitisation: 1. 2. Conversion of existing illiquid assets like loans, advances and receivables into tradable security Reconverting them into fresh assets through capital market operations

SECURITISATION OF FINANCIAL ASSETS

Benefits of Securitisation:
1. 2. Separates the credit risk of the assets from the credit risk of the Originator Lower the cost of borrowing for Originator as the security is independent of the rating of the corporate securitising these assets Illiquid assets converted into marketable securities and thus provide alternate funding source

3.

SECURITISATION OF FINANCIAL ASSETS

Benefits of Securitisation : (contd) 4. Remove assets from balance sheet and thus improve capital adequacy 5. Operations in a particular portfolio of assets can be increased without increasing total exposure

SECURITISATION OF FINANCIAL ASSETS

The Players and their Role:

1. 2.

Originator: An entity making loans to borrowers or having receivables from customers Special Purpose Vehicle: The entity which buys assets from Originator and packages them into security for further sale
a. b. Bankruptcy remote Separates the risk of assets from the credit risk of the seller

3.

Credit Enhancer: To reduce the overall credit risk of a security issue by providing senior subordinate structure, over-collateralization or a cash collateral

SECURITISATION OF FINANCIAL ASSETS

The Players and their Role: (contd)

4. Credit Rating Agency: To provide value addition to security 5. Insurance Company / Underwriters: To provide cover against redemption risk to investor and / or undersubscription 6. Investor: The party to whom securities are sold

SECURITISATION OF FINANCIAL ASSETS

Requirements for Eligible Collaterals:

1. Assets to be securitised to be homogeneous in terms of:

2. Underlying assets
3. Maturity period 4. Cash flow profile

SECURITISATION OF FINANCIAL ASSETS

Eligible Collaterals: 1. 2. 3. 4. 5. 6. Housing finance Term loan finance Car loan Credit card receivables Export credit Etc.

SECURITISATION OF FINANCIAL ASSETS

Eligible Collaterals: 1. 2. 3. 4. 5. 6. Housing finance Term loan finance Car loan Credit card receivables Export credit Etc.

SECURITISATION OF FINANCIAL ASSETS

Instruments: Depending on the structure of securitisation, the instrument would be pass-through certificate (PTC), a promissory note, a bond or debenture. 1. The PTC passes the cash flows from borrowers in the same form to investors. However, negotiability is restricted as the investor has to return the PTC to SPV 2. Promissory note / bonds / debentures make available different tenor maturities and yield to different investors

SECURITISATION OF FINANCIAL ASSETS

Securitisation Process: 1. 2. 3. Selection of assets by the Originator Packaging of designated pool of loans and advances (assets) Underwriting by underwriters

4.
5.

Assigning or selling to of assets to SPV in return for cash

Conversion of the assets into divisible securities

SECURITISATION OF FINANCIAL ASSETS

6. 7. 8. 9. SPV sells them to investors through private placement or stock market in return for cash Investors receive income and return of capital from the assets over the life time of the securities The risk on the securities owned by investors is minimized as the securities are collateralisied by assets The difference between the rate of the borrowers and the return promised to investors is the servicing fee for originator and SPV

SECURITISATION OF FINANCIAL ASSETS

Legislations / Enactments and their impact on securitisation transactions: The Companies Act 1956 affect the SPV in the following manner: 1. Framing of Memorandum and Article of Association of the SPV and formation of SPV as a Limited Company 2. Management of affairs viz. Board of Directors, Borrowing Powers / delegation of powers for recovery of receivables etc. 3. Share Capital Structure 4. Issuance of Bonds / Debentures etc. to investors (whether by public issue or private placement) and servicing the investors