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Project Finance and Credit Enhancement June 15, 2000

Casualty Actuarial Society Seminar on Reinsurance. Project Finance and Credit Enhancement June 15, 2000. Jeffrey M. Stewart Gerling Global Financial Products Inc. What is Credit Enhancement?. the substitution of a more credit-worthy party for a lesser one.

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Project Finance and Credit Enhancement June 15, 2000

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  1. Casualty Actuarial SocietySeminar on Reinsurance Project Finance and Credit Enhancement June 15, 2000 Jeffrey M. Stewart Gerling Global Financial Products Inc.

  2. What is Credit Enhancement? • the substitution of a more credit-worthy party for a lesser one. • purpose is to lower a company’s cost of borrowing. • achieved through collateralization with specific assets or business units, which are of higher credit quality than the company itself.

  3. Types of Credit Enhancement Insurance • Financial guaranty • Surety bond • Insurance guarantees Asset-Backed Structures • Senior-subordinate • Excess spread Project Finance • Special Purpose Vehicles

  4. Financial Guaranty Insurance Guarantees the timely payment of interest and principal in respect of notes, securities and other financial obligations.

  5. Types of Credit Enhancement Insurance • Financial guaranty • Surety bond • Insurance guarantees Asset-Backed Structures • Senior-subordinate • Excess spread Project Finance • Special Purpose Vehicles

  6. Surety Bond • Guarantees the performance by one party of an obligation to another. • 3 party agreement - Principal, Obligee and Surety.

  7. Types of Credit Enhancement Insurance • Financial guaranty • Surety bond • Insurance guarantees Asset-Backed Structures • Senior-subordinate • Excess spread Project Finance • Special Purpose Vehicles

  8. Types of Credit Enhancement Insurance • Financial guaranty • Surety bond • Insurance guarantees Asset-Backed Structures • Senior-subordinate • Excess spread Project Finance • Special Purpose Vehicles

  9. Payment Waterfall prioritize use of cash proceeds. pay senior debt interest and principal before subordinated debt interest and principal Senior-Subordinated Asset-Backed Structures USD $200 MM Collateral USD $150 MM Debt USD $150 MM Security Assets Loans AAA AA A BBB BB B NR Equity Over-Collateralization

  10. Types of Credit Enhancement Insurance • Financial guaranty • Surety bond • Insurance guarantees Asset-Backed Structures • Senior-subordinate • Excess spread Project Finance • Special Purpose Vehicles

  11. Excess Spread Asset-Backed Structures Assets $100 mm of 10% loans Liabilities $100 million of 7% debt Subordination created from the difference between interest received on the underlying assets and interest paid on liabilities SPV Difference $3 mm per year

  12. Types of Credit Enhancement Insurance • Financial guaranty • Surety bond • Insurance guarantees Asset-Backed Structures • Senior-subordinate • Excess spread Project Finance • Special Purpose Vehicles

  13. Project Finance • Legally separate entity. • Dedicated and measurable cash flows: • revenue • expenses • Issues own debt typically cheaper than sponsoring entity. • creates off balance sheet financing at lower cost. An Existing Company SPV

  14. How does an Insurer underwrite Credit Enhancement? Assets Liabilities “Measure Cash Flows” • Financial Re • Balance sheet and Income Statement protection • Credit Enhancement • Reduced borrowing costs • Off-Balance sheet financing • Insurer assumes default risk but does not fund

  15. How are these funded? • Securities • Loans • Commercial Paper

  16. Who are Credit Enhancers? • Monoline Financial Guarantee Insurers • Multi-line Property & Casualty Insurers • Stand-alone Structures • Commercial Bank Letters of Credit

  17. Monoline Financial Guaranty Industry Rating MBIA AAA Ambac AAA FSA AAA FGIC AAA XL Capital AA ACA A CGA AAA (Duff only) Asset Guaranty AA Enhance Re AA Capital Re AA RAM Re AAA

  18. Multi Line Credit Enhancers • American Re Financial Products • Allianz Risk Transfer • Centre Solutions • ACE • X.L. • AIG • Gerling Global Financial Products • Others...

  19. Asset-Backed Securities The underlying assets of ABS include primarily credit cards, auto loans, manufactured housing loans, student loans, equipment leases, synthetic securities, tax liens, CLO’s, CBO’s and a host of miscellaneous consumer and commercial loans. Excluded from ABS are residential and commercial mortgage loans.

  20. Public ABS Issued and 2000 Forecasted by Asset Type ($Millions) 2000 Forecast Volume (billions) % Automobiles $43 20% Credit Cards $45 20% Home Equity $75 34% Manufactured Housing $14 6% Equipment $15 7% Student Loans $10 5% Other $18 8% Total $220 100%

  21. Source: Merrill Lynch ABS Market Outlook Dec. 22, 1999

  22. Source: Merrill Lynch ABS Market Outlook Dec. 22, 1999

  23. Source: Merrill Lynch ABS Market Outlook Dec. 22, 1999

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