Need some liquidity? Asset securitization has taken off in a big way in China, but those looking for fluid outcomes should first be thoroughly familiar with this mode of financing, writes Richard Li 

The asset securitization market in China continued its stellar growth last year, with offerings totalling more than RMB1 trillion (US$158 billion) and the market inventory surpassing RMB2 trillion, according to the 2017 Asset Securitization Development Report issued by China Central Depository & Clearing.

From the highest decision-making levels and the various regulators to the stock exchanges, all are supporting or promoting the development of the asset securitization business.

Macroeconomically, the promotion of asset securitization can help in realizing the goal of “eliminating gearing” in China. For enterprises in need of funding, the greatest effect of asset securitization is converting future cash flow into cash now. The financing costs of asset securitization are relatively low, and the credit rating of a securitization product is based on the quality of the underlying assets, not the credit rating of the enterprise seeking the financing. So this type of financing instrument is particularly attractive to small and medium-sized enterprises. Asset securitization can help enterprises in opening financing channels, enhancing the efficiency of asset utilization and reducing enterprises’ liability ratios.

Although details may differ in specific deals, most securitization processes share a basic form: a company in need of capital, as the originator (also called the original rights holder), identifies cash flow-generating assets to be placed into a pool of underlying assets, which will be sold to an independent special purpose vehicle (SPV) and thus be removed from the company’s balance sheet. Based on the underlying assets and their future cash flow, the SPV then issues asset-backed securities (ABS) to capital market investors. Funds raised from the issuance will be transferred to the originator as payment for purchasing the underlying assets.

The market currently has two popular securitization categories. The first is credit asset securitization, subject to the oversight of the People’s Bank of China (PBOC) and the China Banking Regulatory Commission (CBRC). The originators are usually banks or other financial institutions, and the SPV is usually a trust company. The securitization products are offered and traded in the national interbank market, and the underlying assets can be personal housing mortgage loans, enterprise loans, car loans, etc.

The second model is corporate asset securitization, subject to the oversight of the China Securities Regulatory Commission (CSRC). The originators are general industrial or commercial enterprises, and the SPV is an asset-backed specific plan (ABSP) of a securities company, or subsidiary of a fund company. The securitization products are offered and traded on the Shanghai and Shenzhen stock exchanges. Their underlying assets come in many varieties, including accounts receivable, financial leasing claims, small loan claims and property income, as well as charge rights such as infrastructure charges, entry ticket charges, etc.

UNDERLYING ASSETS

“In the actual operation of enterprise asset securitization, one issue that an enterprise needs to pay attention to is the selection of the underlying assets,” says Xi Lele, a partner at AllBright Law Offices in Shanghai. “The underlying assets are the heart of the entire asset securitization process.”

奚乐乐 XI LELE 锦天城律师事务所 合伙人,上海 Partner AllBright Law Offices Shanghai

What kind of assets can be used in asset securitization? “Pursuant to regulations, the term ‘underlying assets’ means property rights or property that comply with laws and regulations, the title to which is free and clear, and that can generate an independent and foreseeable cash flow, and can be specified,” says Yang Kun, a senior partner at Longan Law Firm in Shanghai.

Based on laws and practical experience, Yang summarizes the three conditions that underlying assets must satisfy: (1) underlying assets that the enterprise serving as the originator owns and that are free of mortgages, pledges and other security interests; (2) underlying assets that can be lawfully and validly transferred without requiring the consent of a principal or other third party; and (3) underlying assets that are not involved in a judicial procedure for enforcement such as a lawsuit, arbitration, enforcement or bankruptcy procedure.

The ability to generate a stable and foreseeable cash flow is without doubt a precondition to the securitization of underlying assets. “The basic purpose of securitization is to use the cash flow generated by the assets as the fund source for repaying the investors,” says Zhang Zhixiao, a senior partner at V&T Law Firm in Beijing. “If the assets cannot generate a sufficient cash flow, and only their assessed value or market value is relied on, such securitization is not realizable.”

张志晓 ZHANG ZHIXIAO 万商天勤律师事务所 高级合伙人,北京 Senior Partner V&T Law Firm Beijing

Compliant documents and material are helpful in demonstrating the capacity of the underlying assets to generate cash flow. “An enterprise needs to pay attention as to whether the assets in the pool can offer relatively compliant and systematic draft documentation, e.g., relevant contracts, invoices, correspondence, etc.,” says Xi. “The more compliant that a company’s business is, the smaller the difficulties will usually be in the subsequent asset securitization operations. It will also help the company save time and enhance the progress and efficiency of the project.”

When determining the size and term of the financing, cash flow is a key factor that needs to be considered. “The precondition to financing by asset securitization is the underlying assets owned by the enterprise, and the size and term of the financing need to be consistent with the cash flow generated by the underlying assets,” says Piao Wenyi, counsel at FenXun Partners in Beijing. “When preparing to carry out asset securitization, an enterprise should take a close look at its qualified underlying assets, then calculate the cash flow generated by them to come up with the size and term of the financing.”

In asset securitization, the size of the financing need not be coupled to the size of the enterprise. “A large enterprise may not own a large quantity of underlying assets, whereas a small or medium-sized enterprise that owns a large quantity of quality underlying assets can achieve financing results through asset securitization that other financial instruments cannot provide,” says Piao.

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TOP 20 CHINA CREDIT ABS DEALS BY VALUE

Data run from 26 February 2017 to 26 February 2018

Source: China Securitization Analytics


TOP 20 CHINA CORPORATE ABS DEALS BY VALUE

Data run from 26 February 2017 to 26 February 2018

Source: China Securitization Analytics


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