New developments in Russian infrastructure securitisation
June 2014 | EXPERT BRIEFING | BANKING & FINANCE
The Russian economy is currently experiencing a great demand for financing of infrastructure projects, and the government has developed new legal instruments for project finance, including securitisation. A new law on asset-backed securities (the ABS law) which will come into effect on 1 July 2014, will create a legal framework for securitisation in Russia. The new ABS law will introduce into Russia a range of innovations which have been developed and successfully used in international finance practice. Among such innovations are a new regulatory platform for securitisation of both revenues generated by infrastructure projects (such as utilities payments, tolls from roads, revenue from sale of air tickets, etc.) and of infrastructure loans provided by financing institutions. This will give investors additional flexibility to structure their withdrawal from infrastructure projects or to attract additional financing for the projects through capital markets.
The ABS law provides a legal framework for a number of possible securitisation structures related to infrastructure receivables, including covered bonds, collateralised debt and collateralised loan obligation (CDO/CLO) structures, and structures specifically for securitisation of receivables generated by an infrastructure project.
The ABS law distinguishes between a general CDO/CLO securitisation model which can be used for all assets and a special securitisation model which will be available for (re-) financing long-term (not less than three years) investment projects by acquisition of revenue or property generated by the project. In other words, the general model will be used for refinancing infrastructure loan portfolios (CLO/CDO), while the special model will be used for refinancing receivables generated by the project. The rationale for this distinction is that projects which use the revenue they generate will have special treatment from the perspective of tax law and capital requirements. For example, under the special model the originator will be subject to less strict risk retention requirements (i.e., 10 percent under the special infrastructure model as opposed to 20 percent under the general model). It is important that the lower risk retention requirement is applicable for both availability-based and free market projects.
Another major difference between the general and the special models lies in the type of special purpose vehicles which they will use. Under the general model notes will be issued from the balance sheet of a credit institution or via a special purpose financial vehicle (SPFV), while under the special model a special purpose project finance vehicle (SPPFV) will be used. Under the ABS law the SPFV is treated as a purely technical issuer governed by a professional management company and does not have any employees. In contrast, a SPPFV may be set up either with or without the capacity to have a CEO and employees. If the SPPFV has such capacity, then it will be treated as an operational company rather than a SPV. This will have the effect of increasing the general commercial risks involved in the use of this structure, and will compromise its bankruptcy remoteness. For example, an operational SPPFV will be under additional pressure to maximise its recovery rate in the event of its liquidation, as under Russian insolvency law the salary and personal injury claims of its employees, to the extent that they do not exceed 20 percent of the collateral value, will have priority over secured claims. On the other hand, such an SPPFV will have more operational freedom, while retaining its special limited recourse status. Since both SPFVs and SPPFVs will be exempted from property and profit taxes, the use of an operational SPPFV may allow investors to get additional benefits by transferring the whole infrastructure project to the SPPFV. Such an SPPFV may have another advantage for secured creditors: it provides a mechanism for replacing the issuer in the event of a default. Under the ABS law, the assets and liabilities of a defaulting SPPFV may be transferred to a newly established SPPFV. However, the mechanism for such transfer has not yet been fully developed.
Transaction documents regulating project finance loans frequently contain restrictions on the sale of receivables generated thereunder. In Russia, this is specifically relevant in the case of public-private partnership projects, which involve governmental participation or financial support (i.e., state guarantees, concession agreements, etc.). The new ABS law, together with recent adjustments of the capital requirements for Russian banks, may pave the way for the structuring of synthetic CDO securitisations. Under the recently amended Regulation 139-I of the Russian Central Bank, Russian banks can effectively transfer the risk under the underlying loans to a third party via a legally binding agreement. The Regulation does not regulate the particular form of such agreement (i.e., such risk transfer can be documented either by a participation agreement or by a credit derivative) but requires that (i) the risk be transferred in funded form and (ii) such funding be returned to the participant only upon discharge of the loan. Taking into account the provisions of the new ABS law, this may potentially permit the creation of Depfa-style synthetic structures under Russian law. Under such a structure, the SPFV would issue floating rate notes, which would be backed by notes linked to infrastructure loans in the bank portfolio. This scheme should permit the transfer of the risk to the SPFV without the need for physical transfer of the receivables under Russian law.
The ABS law introduces several other innovations which should be useful for both the general and the special models described above. It significantly broadens the range of collateral eligible for securitisation, including infrastructure securitisation, and will also strengthen the legal analysis related to the sale of future receivables, which is crucial for structuring toll road, utility payments and other future flow deals. Another important innovation of the ABS law is the introduction of pledge and nominal bank accounts. The lack of these instruments in the past significantly jeopardised the acceptance of conventional domestic structures by the Russian legal system, and made future flow domestic structures unrealistic as did not provide protection of the collections from the sold portfolio concentrated in Russian accounts. Under the new law, the receivables from each collateral can be held in the special bank accounts pledged to the noteholders. Such accounts will be protected from claims of third parties, including in insolvency. Further, the new law significantly improves the regulation of the funding side of the deal and the cash management rules. For example, it introduces the concepts of note and security trustees, and also multi-tranche issuances and subordination in ABS transactions.
The reform of the ABS law will require some additional steps from the Russian Central Bank in order for it to become fully effective, but nevertheless it represents a big step forward, and should create important incentives for the development of Russian domestic infrastructure securitisation structures.
Alexey Kukharev is of counsel and Alexandra Kobzeva is an associate at Orrick CIS LLC. He can be contacted on +7 495 775 4805 or by email: email@example.com. Ms Kobzeva can be contacted on +7 495 775 4805 or by email: firstname.lastname@example.org.
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Alexey Kukharev and Alexandra Kobzeva
Orrick CIS LLC