Development and legal structure of the asset securitisation market

The term “asset securitisation” means a structured method of financing where the sponsor sells assets, or a portfolio of assets, that lack liquidity but can generate a predictable cash income to an investor, thus creating a financial instrument or equity units backed by the cash flow generated from the underlying assets which the investor has the ability to sell on a capital market to realise the cash value of such asset-backed securities. Asset securitisation in China is divided into the credit asset securitisation market and corporate asset securitisation market, based on the type of underlying assets, the regulator, trading venue, rules and regulations, etc.

The state of market development

The asset securitisation business formally started in China in 2005. Between 2005 and 2008, the China Banking Regulatory Commission (CBRC) approved the issuance of 45 credit asset securitisation products worth RMB59.7 billion (US$9.7 billion). The China Securities Regulatory Commission (CSRC) approved the issuance of nine projects that brought in financing of RMB26.3 billion. Between 2008 and 2010 there was a lull, with no products issued.

Commencing in 2011, the CSRC again began to approve asset securitisation projects, with a total of six new products successfully issued, raising approximately RMB13.2 billion in financing as at mid-December 2013. In May 2012, the central bank, the CBRC and the Ministry of Finance also jointly issued the Notice on Matters Relevant to Further Expanding the Pilot Project for Credit Asset Securitisation, restarting credit asset securitisation.

Evolution of legislation

Since the issuance of the Administrative Measures on Credit Asset Securitisation in 2005, the legislative authorities have issued more than 10 sets of related ministerial-level regulations and trading rules, covering all aspects of asset securitisation, with the major ones including: the Provisions for Accounting Treatment in Respect of the Pilot Project for Credit Asset Securitisation, the Rules for Information Disclosure in Connection with Asset-Backed Securities, the Measures on Regulating the Pilot Project for the Securitisation of the Credit Assets of Financial Institutions, and the Notice on Tax Policy Issues Relevant to Credit Asset Securitisation.

In March 2013, the CSRC issued the Administrative Provisions on the Asset Securitisation Business of Securities Companies, specifying that securities brokerages are required to establish special purpose vehicles (SPVs) to engage in the asset securitisation business, and also providing specific guidance and regulations for the asset securitisation business of securities brokers, signifying that the asset securitisation business of securities companies is beginning to change. These regulations promote the stable development of the asset securitisation business in China.

Trading structure

The basic operational procedure for asset securitisation is as follows: first, the sponsor (i.e. the existing beneficiary) determines the assets to be securitised, following which it or another investment firm establishes an SPV; second, the sponsor sells the securitised assets to the SPV, which collects these assets into an asset pool and offers negotiable securities on the financial market backed by the stable cash flow generated by the asset pool; last, the cash flow generated by the asset pool is used to discharge the issued negotiable securities.

The main entities involved are: 1) the sponsor, i.e. the existing beneficiary of the underlying assets, which is the party that sells the securitised assets to, or places them in trust with, the SPV and obtains the proceeds; 2) the issuer, i.e. the firm that establishes the SPV, which is the party that accepts the underlying assets; 3) the servicing party, which is the party that manages and safeguards the securitised assets and collects the future cash flow; 4) the underwriter, which determines the feasibility of securitisation, arranges for the offering of the securities and supports the trading of the securities on the secondary market; 5) the law firm, which conducts due diligence on the lawfulness of the underlying assets and the process of their coming into being, and their transfer, and issues a legal opinion on the dedicated plan (to date, less than 10 law firms have successfully participated in an asset securitisation offer in China); 6) the manager, generally a securities company or trust company, which is responsible for management of the underlying assets and the cash flow generated, securities registration, paying the principal of, and interest on, the securities to investors, etc.; 7) the credit rating agency, which rates the asset securitisation product; 8) the custodian, i.e. the custodial bank; 9) the investors, which purchase and pay for the asset securitisation product; and 10) other involved organisations.

Three new plans

In 2013, three new dedicated corporate asset management plans were issued in China, namely the dedicated asset management plan for the rights to the on-grid charges for hydropower from phase 2 of Huaneng’s Lancang hydropower project; the dedicated asset management plan for the BOT project of Shanghai Tunnel Engineering Co; and the Orient Securities Asset Management Company-Alibaba X dedicated asset management plan. At present, the CSRC is reviewing a total of 33 dedicated corporate asset management plans.

In November 2013, the “2013 first tranche of the dedicated Kaiyuan Railway credit asset-backed securities”, totalling RMB8 billion, was offered on the interbank bond market, representing the first product offered since the decision of the State Council in August 2013 to expand credit asset securitisation, and an important step in financial product innovation in the banking industry since the issuance of the Decision of the Central Committee of the Communist Party of China on Several Major Issues Concerning Comprehensively Intensifying Reform. A number of domestic banks are now preparing, or have submitted, credit asset securitisation proposals.

On the fast track

Asset securitisation in China is gradually entering the fast development track. It is an important measure in the implementation by the banking industry, as well as the corporate world, of the State Council’s requirement of “duly using new resources and employing existing resources”. However, no national law has yet been issued by the National People’s Congress. Everything that has been implemented to date is either ministerial-level regulations or other relevant trading rules issued by relevant authorities. We are confident that the orderly and rapid development of asset securitisation can be promoted in China through correct market guidance, faster legislative progress and the adoption of appropriate laws and regulations.

Lawrence Lu is a senior partner and head of the financial securities practice group at SG&CO PRC Lawyers in Shanghai