Asset backed/hybrid notes: recent market and regulatory developments Jay Lee Jason Valoti
Introduction Overview of potential structures - key considerations Repackaging refresher Types of underlying assets Loan exposure reduction structures Equities linked structures Fund share linked structures Documentation issues on recent structures Relevant PRC laws - security interest 1 /
Overview of potential structures - key considerations 2 /
Overview of potential structures - key considerations Type of underlying asset (e.g. loans, fund shares, equities, bonds, others) Jurisdiction(s) of obligors of underlying asset/location of underlying assets Commercial considerations: providing an investment product giving exposure to illiquid asset reduction of investor exposure to arranger credit risk passing on risk/credit exposure of underlying obligor moving assets off-balance sheet retention of legal ownership for commercial relationship reasons with underlying obligor (e.g. borrower) possibility of credit enhancement/cash flow conversion offered to investors 3 /
Repackaging refresher 4 /
Basic structure Swap Provider Fixed Rate Issuer Floating Rate Floating Rate SPV Notes Noteholders Fixed Rate Notes Underlying Assets 5 /
Parties to a repackaging transaction Noteholders Benefit of Security Trustee Payment of Notes Paying Agent Trust Deed constituting Notes and Security Benefit of Security Agency Agreement SPV Swap Swap Counterparty Custody Arrangements within Agency Agreement Sale of Underlying Securities Custodian Custody of Assets Subscribes for Notes/sells to Noteholders Dealer Assets Rating Agencies Stock Exchange
Multi-issuance programmes Possible for same SPV to issue multiple series of notes No cross default provisions contained in the notes for each series Series 1 Noteholders Series 2 Noteholders Series 3 Noteholders Swap C party Issuer Swap C party Issuer Swap C party Issuer Series 1 Underlying Assets Series 2 Underlying Assets Series 3 Underlying Assets 7 /
Types of underlying assets 8 /
Types of underlying assets Bonds Euroclearable bonds Domestic bonds Convertible bonds Funds/Shares Hedge Funds RQFIIs Listed Equities Exotic Letters of credit Warrants 9 /
Loan exposure reduction structures - basic structures and key issues 10 /
Types of loans Loans Bilateral loans Syndicated loans Secured loans Unsecured loans Guaranteed loans Term loans Revolving credit facilities Amortising loans Bullet repayment loans Asset finance loans 11 /
Overview of loan exposure reduction structures Importance of selecting appropriate structure for the commercial goal Bilateral structures include: Sub-participation of loan risk by lender Credit default swap on borrower group Total return swaps and similar arrangements More structured solutions include: On-balance sheet LPN issuance by lender group member (potentially with limited recourse to amounts received under loan) SPV issued loan repackaging/cash CLO structures SPV issued synthetic CLO structures (or similar) 12 /
Selecting appropriate structure - considerations Structure cost -v- potential yield expected by market Retaining loan within lender group -v- potential benefits of moving offbalance sheet Single loan solutions -v- portfolio solutions Nature of borrower may preclude some solutions (e.g. single-name CDS/Portfolio CDS costly for non-public names) Target investors/counterparties: single -v- multiple 13 /
Loan repackaging - key issues Transferability can the loan be transferred to an SPV as lender (or on enforcement, a trustee or noteholders)? Is any security creation over the loan permitted? Confidentiality can the loan be disclosed to SPV parties/investor(s)? Is disclosure in the note documents required? Voting rights are these to be passed on to investors/originating lender to retain control? Liabilities of the SPV can limited recourse protections be incorporated into the loan/extended to the SPV as part of the transfer? What liabilities may the SPV be exposed to under the loan? 14 /
Loan repackaging - key issues Early redemption the note terms will need to be tailored to reflect any loan prepayment rights/loan events of default Tax does the jurisdiction of the SPV give rise to any tax issues (e.g. withholding on payments from borrowers)? Regulatory does the SPV require a money-lending licence in jurisdiction of the borrower? Are there any restrictions on marketing loan-linked notes in jurisdiction of investors (e.g. do they need to be structured to meet debtsecurity requirements)? Local law can local law security be granted over SPV s rights under the loan? 15 /
Equities linked structures - basic structures and key issues 16 /
Types of Equities Equities Listed Unlisted Dematerialised format Share certificate format 17 /
Overview of equity linked reduction structures Importance of selecting appropriate structure for the commercial goal Structured solutions include: physical index tracking repackaging leveraged performance structures equity linked premium payout structures 18 /
Equity repackaging - key issues Format of shares are the shares in uncertificated registered form, certificated form or dematerialised form? This may affect the method of holding by the SPV (e.g. via a custodian or directly) Shares listing are the shares listed? If so, consider percentage of underlying company represented by the shares to be held to determine if it triggers and notification or disclosure obligations under the Exchange s rules Transferability for unlisted shares consider the ease, and process, of transfer of shares to an SPV (or on enforcement, a trustee or noteholders)? Liabilities of the SPV does the SPV have to sign any subscription or transfer documentation? Could this expose the SPV to liabilities that could affect its limited recourse position? 19 /
Equity repackaging - key issues Redemption including mechanics for redeeming shares by SPV/custodian to fund redemption pay-outs Regulatory are there any restrictions on the marketing of equity-linked notes in the relevant jurisdictions of the investors? Can the notes be structured to avoid such restrictions? Are there any AIFMD, CIS or similar considerations? Security what form is the security over the shares to take? If they are dematerialised, are they held in a local clearing system? If so, a local custodian and local law security may be required. Does the granting or enforcement of any security trigger any notification or disclosure obligations Custodian/Agents need to check whether the custodian/agents are able to hold the shares and determine whether they require any specific comfort regarding compliance with any regulatory obligations imposed on the holding of listed shares 20 /
Fund share linked structures - basic structures and key issues 21 /
Types of Funds Funds Private funds Regulated/UCITs/public funds Hedge funds Private equity funds Managed accounts 22 /
Overview of fund exposure reduction structures Importance of selecting appropriate structure for the commercial goal More structured solutions include: leveraged fund repackagings fund access products cross-currency/credit/other structurally enhanced fund linked structures 23 /
Fund repackaging - key issues Format of fund shares are the shares in uncertificated registered form, certificated form or dematerialised form? This may affect the method of holding by the SPV (e.g. via a custodian or directly) Transferability ease, and process, of transfer of fund shares to an SPV (or on enforcement, a trustee or noteholders)? Is security creation over fund shares permitted? Fund events does the fund permit gating/side pockets/refusal of transfers/hold-backs/claw-backs? Consider how to reflect these in note structure and related disclosure to investors of risks Liabilities of the SPV does the SPV have to sign any subscription or transfer documentation? Could this expose the SPV to liabilities that could affect its limited recourse position? 24 /
Fund repackaging - key issues Redemption including mechanics for redeeming fund shares by SPV/custodian to fund redemption pay-outs Leverage is it intended to provide investors with a leveraged exposure? Is this to be achieved synthetically (e.g. via a swap with the arranger) or physically (e.g. by arranger advancing a senior loan to the SPV to fund purchase of additional shares? If so, what leverage related triggers should be included to protect the leverage provider? Regulatory are there any restrictions on the marketing of fund-linked notes in the relevant jurisdictions of the investors (e.g. would it be characterised as marketing of an unregulated fund in that jurisdiction)? Can the notes be structured to avoid such restrictions? Are there any AIFMD, CIS or similar considerations? Security what form is the security over the fund shares to take? 25 /
Documentation issues on recent structures - loan participation notes 26 /
Documentation issues Most loan repackagings relate to secondary market transfers of loans LPN structures differ as the Note issuing SPV is often established as a conduit for advancing the loan to the borrower. In addition to many of the points on Loan Repackaging, this gives rise to some additional considerations Disclosure issues Disclosure on the assets Disclosure on the borrower If there is a guarantor, disclosure on the guarantor When the guarantor s credit is weak, disclosure on the guarantor s holding company 27 /
Documentation Issues Due diligence issues Due diligence on the issuer unlikely Due diligence on the borrowers less extensive than the guarantor s DD, if there is the guarantor Due diligence on the guarantor, if there is any guarantor Due diligence on the guarantor s holding company, if any Regulatory due diligences (e.g., sanctions, anti-corruption and AML laws) 28 /
Documentation Issues Subscription agreements Multiple agreements to cater for different series of notes? Which entities need to be covered on the borrowers side (e.g., the issuer, the borrowers, the guarantor or the guarantor s holding company)? Joint liabilities? 29 /
Documentation Issues Listing venue issues Need to comply with different requirements of listing rules Irish stock exchange (GEM) more commonly used Typically it requires three rounds of comments by the exchange Listing rules affect the offering circular disclosure 30 /
Documentation Issues Comfort letters Appointment of a Loan Monitoring Agent or similar agent may be necessary Need to determine which entity is to do this (as an Arranger entity is unlikely to be performing ongoing active roles unlike a loan repackaging) Ability to tailor the loan so it fits in with the Note structure 31 /
Relevant PRC laws - security interest 32 /
Relevant PRC security legal system Property Law of China Registration of security interest 33 /
Overview of security interest in PRC Granted over Title transferred to creditor? Possession transferred? If debtor defaults, creditor can, with debtor s consent: Mortgage Immovable property Movable property Intangible property Pledge Movable property Rights No No Convert mortgaged property into money to satisfy the debt No Yes Sell the property Lien Movable property No Yes Sell/(Auction) the property Deposit Monetary deposit from the debtor / / Retain the deposit 34 /
Security interest types applicable to specific assets Immoveable property Buildings and other attachments to land (inc. buildings under construction) Mortgage Pledge Lien Moveable property Manufacturing facilities* Raw materials* Semi-manufactured goods and products* Means of communication and transportation (inc. vessels and aircraft under construction) Other moveable properties, unless prohibited by law Items that the creditor is already in possession of pursuant to a contract between him and the debtor AND the debtor fails to pay his debts * A floating mortgage can also be created over these properties 35 /
Security interest types applicable to specific assets Rights LAND The right to use land for construction The right to contracted management of barren land, as obtained by e.g. bid invitation, auction and public consultation INTELLECTUAL PROPERTY Transferable property rights in intellectual property (Inc. exclusive trademark rights, patent rights, copyright) 36 /
Security interest types applicable to specific assets RIGHT OF DISPOSAL OF Transferable fund units Stock rights Account receivables Money orders, checks, cashier s checks Securities and deposit receipts Warehouse receipts and bills of lading OTHERS Other property rights that can be pledged in accordance with laws and regulations (e.g. deposit accounts) 37 /
Speakers Jason Valoti Partner, Singapore T +65 6831 5610 E jason.valoti@simmons-simmons.com Jay Lee Partner, Hong Kong T +852 2583 8282 E jay.lee@simmons-simmons.com 38 /
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