Article/Intelligence
Nontraditional Asset Securitizations Appear to Modestly Reduce RemainCo Leverage, Afford Market Access Typically at Attractive Financing Rates
- Companies engaging in nontraditional securitizations that did not include their entire business were able to reduce their leverage by just over half a turn on average on the basis of our analysis of 12 non-whole-business securitization transactions that have occurred since 2020.
- Even where these securitization transactions resulted in increased leverage at the RemainCo level, we believe they still afforded the company market access, at a time when the corporate debt markets may have been shut to these borrowers or otherwise prohibitively expensive.
- A majority of the securitizations in our dataset were priced below the pre-transaction average cost of debt and comparable secondary market yields on secured debt illustrating the benefit to stressed borrowers of pursuing securitizations for assets that historically may not have been securitized.
Companies with higher-cost borrowing have increasingly relied on tapping the asset-backed security, or ABS, market to raise long-term funding backed by cash-generating assets or receivables as a means to both reduce overall cost of capital and delever. While historically, the assets placed into ABS structures were more focused on traditional financial assets, such as car loans, home loans or long-term customer receivables, more recently we have seen companies contribute more esoteric assets into these structures to raise capital at more attractive rates.
Of the 12 companies within the Octus universe that we analyzed and would consider more stressed at the time of their less traditional ABS financing, net leverage for the previously existing credit box, or “RemainCo,” appears to only have improved on average 0.15x, from 6.19x pre-transaction to 6.04x ex-securitization assets. In our dataset, the average amount of EBITDA transferred to the “SecuritizationCo” was 32.3% of the pre-transaction trailing 12-month amount.
With respect to cost of borrowing, the interest rate on the initial securitization was below the pre-transaction average cost of debt and/or the yield on existing comparable secured debt, prior to the transaction for the fiber companies in our dataset as well as SelectQuote and Sotheby’s.
The antecedent secured borrowing for the airlines in our dataset largely consisted of enhanced equipment trust certificates, or EETCs, and sale-leaseback and other finance lease structures. We would consider these types of financing as “closest to the asset” because under section 1110 of the Bankruptcy Code, aircraft lessors and financiers have rights to immediate surrender and return of the aircraft and/or equipment.
Therefore, their pre-transaction average cost of secured borrowing was lower than the rate on their loyalty program securitizations. In our opinion, however, their loyalty programs represented their most valuable, if not the only, unencumbered asset at a time when access to unsecured debt markets might have been limited or prohibitively expensive.
Nontraditional Securitizations Nominally Deleveraging
Of the 12 securitizations in our dataset, we find an improvement in net leverage for the RemainCo in nine of them, with an average reduction in leverage of 0.6 turns from the pre-transaction net leverage ratio. In these cases, the reduction in net leverage resulted from the transfer of cash proceeds from the securitization to the RemainCo credit box as consideration for the the transfer of the assets and their commensurate EBITDA (or EBITDAR in the case of airlines), which was levered at higher multiples than the remainder of the post-transaction credit stack.
In the three situations where the leverage ratio for the RemainCo was higher after the transaction – Alaska Airlines, American Airlines and B. Riley – we attribute this to the lower leverage of the securitization structure compared with the rest of the credit stack, which may reflect what the market would bear at the time of the securitization. This highlights the importance of the securitization construct as a cost-effective use of collateral in instances where corporate leverage may be so prohibitively high as to curtail access to the corporate credit markets. B. Riley, for example, had pre-transaction net leverage of 10.2x but was able to securitize revenue streams from the licensing of trademarks and brand intellectual property, whereas we believe they were unable to add leverage to the existing structure.
In our calculations, we assume that in situations where the use of the securitization proceeds was not explicitly stated, the raised funds were transferred to the RemainCo, although we do not account for the specific mechanism of said transfer.
In the situations where either the EBITDA or variable operating costs associated with the securitized assets was not available, we assumed the transferred assets had a similar corporate EBITDA margin as the business on the whole, which we believe is a conservative assumption as we would anticipate higher-margin assets to be used for a securitization. As an example, this is the case when comparing EBITDA margins of the assets contributed to the Zayo and Frontier securitization with the rest of their businesses. The EBITDA margin of the assets securitized by Zayo is 54% versus consolidated EBITDA margin in the low 40% range. Meanwhile Frontier’s implied EBITDA margin for the securitized assets, calculated as securitized revenue less the manager fee presumed to cover operating costs of the assets, was 61% compared with the consolidated EBITDA margin of 33.8%.
Our analysis specifically takes into account the first securitization transaction of each respective company and not subsequent follow-ons, as we think this provides the greatest insight into why companies begin tapping the securitization market. Within our dataset, the amount of EBITDA transferred to the securitization vehicle varies based on the type of business.
The economics of airline loyalty programs, designed by the airlines themselves, are such that these programs typically “generate” 40% to 60% of the airline’s consolidated EBITDA, while fiber companies typically have securitized assets within specific regions, representing anywhere from a high-single-digit to low-double-digit percentage of consolidated EBITDA. Along this metric, Metronet is somewhat of an outlier, as it securitized its mature fiber assets – those with positive EBITDA and greater than 30% penetration – to refinance TopCo debt, the proceeds of which had been used to fund its speculative build-out. Hence a large portion of the company’s total EBITDA – in excess of 80%, according to our estimates – was transferred to the securitization vehicle.
The chart below is a composite mapping showing the reduction of leverage at the RemainCo and the size of the EBITDA transferred to the securitization vehicle as a percentage of consolidated EBITDA:
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