From the March 2010 issue of Treasury & Risk magazine

Juicing Receivables

Receivables securitization not only survived the financial crisis but thrived as funding sources dried up and companies looked to accelerate cash collection.

The recent credit crisis stigmatized securitization, the practice widely associated with the now infamous subprime mortgages and defaults of asset-backed securities. But the market for the securitization of trade account receivables
is alive and well, and continues to provide companies with low-cost and low-risk financing options.

Despite the heavy criticism of securitization, anecdotal evidence shows that companies have maintained interest in securitizing receivables. Even a recent change in the accounting treatment of securitization facilities to achieve more transparency won't curb that interest, according to experts.

As credit markets collapsed in 2007 and froze in 2008, consistent sources of funding for corporations all but disappeared. Receivables securitization, however, not only survived but began to thrive.

"The credit bubble period was difficult," says Adrian Katz, CEO of Finacity Corp., a New York City firm that helps companies securitize receivables. "We would call a treasurer and very often the reaction was, 'That's very interesting, but at the moment I don't need the money.'"

Now that credit markets are less liquid and bank lending limited, companies are much more willing to consider the option, Katz says, "because their alternatives are not good, particularly for non investment-grade sellers."

Companies typically securitize receivables to accelerate cash collection.

"It's almost like a checking account or a line of credit," says Mark Zeffiro, CFO of TriMas Corp. "It is the least expensive form of debt we have and provides us with additional flexibility." TriMas operates in industries including packaging, energy, and aerospace and defense.

The securitization process starts when companies transfer receivables to a special-purpose entity, or SPE, which can also be called a conduit. The SPE then issues commercial paper backed by the receivables, and passes the proceeds back to the company. When companies securitize receivables, they most often continue to service them.

Many SPEs, especially those backed by mortgages and other longer-dated assets, were unable to find buyers for their commercial paper in 2008. "The asset-backed commercial paper market was a focal point in the credit crisis, primarily the vehicles most vulnerable to asset classes that were beginning to be impaired," such as mortgages, says Glenn Arden, a partner at Jones Day in New York who specializes in structured finance.

But conduits backed by short-term assets like account receivables, whose maturity matches the short term of commercial paper, were less affected. "That's a good assets and liabilities fit," Arden adds.

A commercial paper funding program set up by the Federal Reserve also helped sustain the receivables securitization market.

In February 2009, at the height of the crisis, Bloomfield Hills, Mich.-based TriMas was able to renew its 364-day receivables securitization facility, which provided the company with up to $55 million at about 5.20%, or 475 basis points over the London interbank offered rate (Libor).

In an effort to strengthen its balance sheet and as part of a plan to reduce leverage, TriMas continues to use receivables securitization. At the end of December, it replaced the $55 million receivables facility with a three-year $75 million facility. Not only does the longer maturity give TriMas a break from annual renewals, but the company is also benefiting from lower rates, often below those it could secure by raising high-yield debt. The new facility starts at 3.25% over Libor, with that spread ranging from 2.75% to 3.5% over the life of the facility. "It's cheaper than our account receivables securitization was 12 months ago," Zeffiro says.

Companies are able to secure such low rates with receivables securitization thanks to structural enhancement, which allows facilities to be rated in the higher ranks of investment grade, often triple-A. In structural enhancement, a facility is broken into different tranches with different degrees of risk, and the subordinated tranches act as a protective layer for senior tranches in case of losses. A typical structure involves a senior tranche that makes up 80% of the facility and is sold, while the remaining 20% is subordinated and kept by the company.

In July, Cemex, a Mexican cement company, raised 2.2 billion in Mexican pesos, or about U.S. $170 million, through a two-year trade receivables securitization facility. Although the company was rated B-, the facility ended up with a triple-A rating, according to Finacity's Katz, who worked on the transaction.

"Securitization offers companies a very useful way of raising cash," says Charles Mulford, professor of accounting at the Georgia Institute of Technology's College of Management.

In the past year, high-yield companies such as JohnsonDiversey, CHC Helicopter Corp. and Manitowoc Co. have all raised cash through securitizing their receivables. John Hanbury, corporate treasurer at CHC Helicopter, a Canadian provider of helicopter support for the oil and gas industry, considers receivables securitization "a cost-efficient and creative source of incremental liquidity," according to an October press release announcing the close of a $40 million transaction.

The accounting treatment for such facilities has contributed to their popularity with companies, even though some accounting experts are uneasy because that treatment makes it more difficult for investors to analyze a company's financials.

Because a receivables securitization transaction is similar to a sale, companies can keep an SPE holding receivables off their balance sheets, which allows them not to count the borrowed debt if they choose to do so and to boost cash flow from operations.

But some accounting experts believe such treatment doesn't give a clear picture of the transaction, offering the illusion of higher cash generated by a company's operations. "In reality, it's a borrowing," says Mulford. "Cash is being borrowed and loan proceeds go to the company." That cash should then be accounted as financing cash flow, he says.

Regulators have taken note. The Financial Accounting Standards Board has strengthened its rules governing off-balance-sheet vehicles by asking companies to consolidate SPEs and add disclosure for the sake of investors. The rule change says that as of the first quarter of this year, companies must bring securitized assets back on balance sheet if they have effective control over them; if they don't have control, companies can continue to account for the transaction as a sale.

The new rules, Financial Accounting Statements 166 and 167 are unlikely to curb companies' interest in receivables securitization, however, with banks likely to take the brunt of the blow. Banks are lobbying heavily for at least a change in capital requirements since the accounting change will force them to boost their regulatory capital to support the increased assets on their balance sheets.

For non-financial companies, the new rules will bring some changes, but won't be too painful, say insiders. At TriMas, for instance, the accounting regulations won't impact its leverage calculation because the company already accounts for the debt from the facility on its books.

From a cash flow standpoint, TriMas will report the expense as a financial activity instead of operating cash flow. But it won't deter the company from making further use of receivables securitization facilities, according to Zeffiro.

Another option for companies that want to avoid consolidation is to sell receivables to multi-conduits run by banks, which securitize receivables along with other assets from multiple companies, thus making receivables only a tiny portion of a facility.

"It should be possible to continue to account off-balance-sheet treatment for account receivables if they're being securitized through a multi-seller," says Jones Day's Arden. "Companies don't have a big enough interest in that conduit to bring it on balance sheet."

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