Recent models for financial leasing companies to securitise assets

By Lawrence Lu, SG&Co PRC
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Lease financing, a modern transaction method combining financing and asset financing, trade and technical services together, has become a new sector and important component of the modern service industry. It is of great significance to effectively expanding investment, production and consumption in relevant industries, supporting the financing of small and medium-sized enterprises, assisting enterprises in developing foreign markets, and driving the development of modern services.

Lawrence_Lu_2
Lawrence Lu

Development and current status

Lease financing developed in three stages in China. It initially arose during the early years of reform and opening to the outside world, rapidly developing in the country as a new transaction method, and made outstanding contributions to China’s attraction of foreign investment, including the introduction of advanced foreign equipment and support of the technical transformation of domestic enterprises. The second stage ran from the end of the 1980s to the beginning of the new millennium. During this period, the theme of the development of lease financing in China was compliant management. With a stream of laws and regulations issued, industry development continuously improved and lease financing companies underwent a shakeout and consolidation.

The third stage ran from the beginning of the 21st century to the present, with the industry slowly recovering its vitality, gradually giving rise to a new financial industry that has financing as its objective, asset financing as its means and integrating credit, trade and technical upgrade.

Asset heavy

Lease financing is an asset heavy industry, and lack of funds has always been the biggest obstacle to the growth of lease financing companies. The lease financing companies under the jurisdiction of the Ministry of Commerce have capital leverage of 10 times (calculation method: total assets ÷ net capital), whereas that of financial type lease financing companies subject to the oversight of the China Banking Regulatory Commission (CBRC) is 12.5 times (total risk capital ÷ net capital).

To further increase the scale of the business of lease financing companies, there are two options: either increase their registered capital or sell their existing business. The former is unsustainable. Selling the existing business by securitising the financing lease assets and realising the removal of the assets from the balance sheet is conducive to resolving such issues as lease asset liquidity, lease asset risk accumulation, etc. In countries where lease financing is well developed, securitisation is one of the most important financing channels available to lease financing companies.

Principal models

The “traditional” method of securitisation of lease financing companies in China has been corporate asset securitisation. Far Eastern Leasing has successfully made two offerings of asset securitisation products, and an application has been made to the China Securities Regulatory Commission (CSRC) for Air China’s lease asset-backed securities. Recently, the trust plan plus insurance capital method and securities broker pooled plan plus dedicated fund plan method have also obtained the approval of the market and gained the attention of lease financing companies. The deal structure and key operational points of the three above-mentioned asset securitisations are set out below:

Corporate asset securitisation. The lease financing company transfers rental income rights to the dedicated plan represented by the securities brokerage. The dedicated plan raises funds from investors, buys the rights to the income from the lease company and offers asset-backed securities that are listed and traded on a stock exchange. The key operational points are: 1) requires the approval of the CSRC, and in the case of a financial type leasing company, the approval of the CBRC is also required; 2) the period for the operations is relatively long; 3) no limit on the financing amount; 4) in general, the financing term does not exceed five years; 5) the financing costs depend on the credit rating; 6) the assets may be removed from the balance sheet; 7) the asset-backed security product needs to be rated; and 8) the product is publicly traded on a stock exchange.

Trust plan plus insurance capital. The lease financing company transfers the rents receivable to the pooled trust plan, with the plan units then purchased with insurance capital. The key operational points are: 1) approval of the CSRC not required, but the purchase of plan units with insurance capital requires China Insurance Regulatory Commission approval; 2) the period for the operations is relatively short; 3) the scale of the financing amount is relatively large; 4) the financing term is relatively long, potentially 10 years or longer; 5) the financing costs are relatively low; 6) the underlying assets may be removed from the balance sheet; 7) the asset-backed security product requires a AA+ rating or above; and 8) the product may not be publicly traded.

Securities brokerage pooled plan plus dedicated fund plan. The securities brokerage raises funds, establishes a pooled plan and invests in the dedicated plan established by a fund subsidiary. The fund subsidiary represents the dedicated plan in purchasing the right to the income from the lease assets of the lease financing company. The key operational points are as follows: 1) CSRC approval not required; 2) the period for the operations is relatively short; 3) the scale of the financing amount generally does not exceed RMB5 billion (US$820 million); 4) in general, the financing term does not exceed five years; 5) the financing costs are relatively low; 6) the underlying assets may be removed from the balance sheet; 7) the asset-backed security product does not need to be rated; and 8) the product is publicly traded on a stock exchange.

All three models can realise the objective of removing lease assets from the balance sheet. Corporate asset securitisation products can be traded on a stock exchange, facilitating the completion of the dedicated plan, but approval is required and the period is relatively long. The trust plan plus insurance capital model can achieve a large amount of long-term financing at low cost, but the rating requirements in respect of the lease assets are fairly exacting. The relatively innovative securities brokerage pooled plan plus dedicated fund plan model does not require approval and can be traded on a stock exchange, making it a good option. A lease financing company should take into account its own circumstances in selecting the suitable method to carry out asset securitisation so as to complete the removal of the relevant assets from the balance sheet and resolve the problem of lease asset liquidity and, thereby, lower the company’s asset management risks and expand the scale of its business.

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