What you need to know about Special Purpose Vehicles in Asset Securitization

November 10th, 2015

Special Purpose Vehicles (SPVs) or Special Purpose Entities (SPEs) play a major role in financial markets, and are frequently used for structured finance transactions, asset securitization or joint ventures.

An SPV acts as a subsidiary company to enable an asset and liability structure as well as hold up a legal status and secure obligations, on the off chance that a company goes bankrupt. Hence, it can also be referred to as a bankruptcy remote entity.

Special Purpose Vehicle’s are normally created for a temporary purpose or activity, through a variety of entities, the likes of which include trusts, limited partnerships, corporations and limited liability corporations. The debt of another company can be transferred to an SPV that is either a limited or partnership company.

A company can primarily isolate any risk that its debt or operations may pose, by transferring the debt off its balance sheet into that of the SPV account.

How is the Transaction Structured?

An SPV can be structured in different ways, depending on what the parent company plans to utilize it for. Initially, the parent company creates an SPV so as to sell the assets on the balance sheet to it, and hence obtain financing through it. The percentage of equity investment is based on the fair market value of the assets that have been transferred.

The SPV can obtain funds, typically between 2-30%, from independent third party equity investors in order to purchase the assets through debt financing. The funds for the Special Purpose Vehicles are raised by issuing normally highly rated investment grade securities that bear fixed or variable rates in order to attract a vast number of investors.

The income stream of the assets purchased by the SPV can be utilized to pay off the interest and the principal thereof.

Off-Balance Sheet Treatment

In certain scenarios, it may be imperative to remove the assets and the liabilities off the balance sheet of a company. The sale of assets to an SPV helps to manage these kinds of circumstances with ease, as long as the sale is structured in a desirable manner, in order to transfer both risk and reward of the ownership effectively.

The risks are not transferred in the case where the sale is coupled with guarantees from the seller in regards to the performance of the assets, which can be misleading to the shareholders, as the risks involved are not disclosed. For the sale to transfer, the third party equity investor must bear the risk of the investment, besides controlling the SPV’s activities.

If the SPV controls the assets transferred and retains risk, then the company that sold the assets to the SPV loses control over the activities altogether, making the consolidation of the off balance sheet treatment desirable. Hence the structuring of the asset securitization is of high importance.

Making an SPV “Bankruptcy Remote”

As mentioned earlier, an SPV can be regarded as a bankruptcy remote entity because of the manner in which it is created. This is done so as to isolate the assets sold to the SPV from inheriting risk, on the off chance that either the SPV, or the parent company whose assets are being securitized, goes bankrupt.

It is also important to note that the SPV itself is unlikely to go bankrupt as a result of the activities it is securitized for, if it has no obligation other than asset-secured loans or trade payables.

Experienced Professionals Make a Difference

When it comes to planning for SPV finance, considering the advice of a financial advisor can be immensely helpful. This helps assist the evaluations in terms of costs and the likely benefits that can be attained as well as provides various alternatives that can help to raise funds through capital markets, and is the best way to go about securitizing assets.

An experienced professional will take your requirements into account, to help adequately structure an SPV for desired results. In addition, an expert will also be able to provide quality advice regarding the execution in lieu of the rules and regulations involved, so get in touch with one for assistance!