er, potential workarounds may exist to address the New York decision. MERS matters. The issue of whether the electronic mortgage registration service has the right to assign the mortgage is important for RMBS. MERS is reportedly listed as the owner of record and nominee for the lender on more than 50% of the outstanding mortgages in the US. Servicers typically produce an assignment of mortgage document assigning the mortgage out of MERS¡¯s name and into the name of the RMBS trust prior to initiating a foreclosure. If MERS doesn¡¯t have the right to assign the mortgage, a court may not permit the servicer to foreclose for lack of standing. Rejection of MERS¡¯s authority to assign mortgages. The Agard decision concluded that MERS did not have authority to assign the mortgage to the securitization trust. The court ultimately ruled in favor of the servicer on other technical grounds, but had it not done so, its conclusion about MERS would have left the servicer without standing to foreclose or seek relief from the automatic stay. The court very narrowly applied MERS¡¯s rights under the documents and under New York agency law. In future cases, the servicer would need to show additional proof that the RMBS trust validly holds both the note and the mortgage in order to prove standing to foreclose. Decision applies only to one jurisdiction so far. The Agard decision will stymie foreclosures on MERS loans whose borrowers declare bankruptcy in the Eastern District of New York. For those cases, servicers may not be able to foreclose unless they can show additional proof, aside from the assignment by MERS, that the RMBS trust owns the mortgage. The adoption of Agard¡¯s reasoning by other jurisdictions would have a broad negative impact on RMBS; however, at this point it is doubtful that other jurisdictions will do so. Two other courts that addressed the same issue in February reached the opposite conclusion.24 Furthermore, it is also
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The Eastern District of New York covers Staten Island, Brooklyn, Queens, and Nassau and Suffolk counties. See In Re: Henry Lopez (US Bankruptcy Court, District of Massachusetts, Eastern Division), 9 February 2011, and John J. Powers and Rose M. Powers v. Aurora Loan Services (Superior Court, Cheshire, New Hampshire), 14 February 2011.
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doubtful whether the Agard reasoning will ultimately stand, even in the US Bankruptcy Court for the Eastern District of New York. An appellate court will ultimately review the Agard¡¯s case conclusion. Workarounds possible. Even if the Agard decision becomes the law in some jurisdictions, parties will, in many cases, be able to work around the issue. For example, some servicers will try to prove a trust¡¯s ownership in the mortgage by producing documents other than the assignment. Another option is for MERS to amend its membership agreement to state more explicitly that lenders give it the power to assign the mortgage on their behalf. Yet, the broader concern that the Agard case raises for RMBS is the increasing phenomenon of borrowers attacking foreclosures on technical grounds, and courts being unwilling to accept the economic reality that the RMBS trust owns the loan. Even if the industry finds a way to deal with the Agard case, the question remains as to what the next issue will be.
Mack Caldwell Senior Vice President +1.212.553.4106 mcginnis.caldwell@moodys.com
Revived New York Bill Weakens Auto Loan ABS As of 1 March, after six months of silence, proposed New York State legislation that disrupts the current practice of assigning a security interest in an auto is back on the table. The legislation, if passed, will weaken existing auto loan securitizations¡¯ security interests in New York autos. Also, if the bill passes, New York will be the only state in the US with legislation of this kind. The bill requires recordation of security interest. The new bill is unique because it requires an assignee of an auto loan, such as an auto loan securitization, to record its interest in the underlying security, the auto itself. The assignee accomplishes recordation by physically noting itself as the new holder of the security interest on the vehicle¡¯s title. Currently, only the original lender records this information because New York¡¯s commercial code, which is the current law, explicitly states that an assignee of a security interest in an auto does not have to take affirmative steps to have a valid security interest in the auto. In addition, the bill requires the assigning party to notify the borrower of the assignment of the security interest in his or her vehicle within 10 days of the assignment. The intended purpose of this provision is to protect the borrower who wants to sell an auto for which the recorded holder of the security interest has assigned its security interest in the vehicle. Existing law already requires the recorded holder of the security interest to deliver clean auto titles to the borrower once the borrower has paid back the auto loan. Securitizations¡¯ existing security interests are weaker. The new legislation weakens the security interests held by auto loan securitizations. Under the proposed legislation, assignees such as existing securitizations will not know whether their interest in New York autos is sufficient to protect them from claims of other creditors. New York loans typically account for 5%-10% of an auto securitization. Administrative burden. Practically speaking, the legislation makes the securitization of New York auto loans administratively burdensome and cost-prohibitive. A typical auto securitization involves at least two assignments of the auto security interest. An additional assignment occurs if another entity, such as a warehouse facility, finances the loan prior to securitization. Also, an assignment occurs later in the life of a securitization if the issuer repurchases the loan pursuant to an optional ¡°clean-up¡± call. All of these assignments would involve a process of notifying the consumer and re-recording upon
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MOODY¡¯S WEEKLY CREDIT OUTLOOK
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Credit Implications of recent worldwide news events
assignment, no matter how brief the duration of the assignment. Existing law neatly accommodates multiple assignments in the securitization world by addressing separately the obligation to release a security interest upon payment of the loan and the validity of transfers of security interests. The bill is proceeding. The bill will likely appeal to the Democrat-heavy state Assembly but will meet resistance in the Republican Senate this year. Michael DenDekker of the New York State Assembly is championing the bill, known as the Vehicle Lienholder Accountability Act. On 1 March, the Committee on Transportation held a hearing and approved the bill, which will now make its way through the Assembly¡¯s Committee on Codes. Although the bill¡¯s purpose is to allow consumers to sell their vehicles with a clean title, opponents of this bill argue that existing law already requires that consumers receive a clean title after payment of the loan, without regard to whether a third-party assignee holds a security interest in the auto.
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High-Yield Covenant Update: Sponsored Bond Deals Dominate, Retailers In Particular Alexander Dill Vice President-Head of Covenant Research + 1.212.553.1338 alexander.dill@moodys.com
Sponsored deals have dominated the high-yield market in the last two weeks ¨C including issuance by four retailers (all rated in the Caa category). These deals have offered either ¡°moderately loose¡± private-equity structures or even stronger-than-general market structural protections when compared to other recent sponsored deals. In only a few instances have we found carve-outs (restricted payments, investments and debt) to significantly exceed the 2010 market norm.25 This recent sponsored issuance is regionally broad-based: in the US, Europe and South Africa. In addition, ¡°covenant-lite¡±26 issuers are continuing to make their presence felt. Hyperlinks in the issuer names below are to our covenant quality pre-sale snapshots, published shortly after a bond¡¯s roadshow launch. As warranted, we provide brief covenant highlights of issuance currently in the market or which have just priced if we believe it to be of market interest.
Retailers abound Two new Caa1-rated LBOs, with substantially the same covenant packages, have the least protective structures of the four retailers but are not aggressive outliers when compared to other recent sponsored deals. Both deals, J. Crew Group, Inc. (sponsors: TPG and Leonard Green) and Jo-Ann Stores (sponsor: Leonard Green), are senior unsecured, mature in 2019, are rated Caa1 and amount to $400 million and $450m, respectively. J. Crew¡¯s and Jo-Ann¡¯s EBITDA add-backs are quite aggressive, incorporating a carve-out for net cost savings and synergies projected in good faith (capped at greater of $25 million and 10% LTM EBITDA). Claire¡¯s Stores, Inc. (Apollo: $400 million of second lien notes) and, in particular, Burlington Coat Factory Warehouse Corp. (Bain Capital: $400 million of senior unsecured notes), provide protection superior to that of the J. Crew and Jo-Ann deals. Burlington and Claire¡¯s are 2006 and 2007 LBOs, respectively. Typical of sponsored deals in general, the retail issuers (with the exception of Burlington) use their considerable goodwill and intangibles to their advantage by using total-asset based carve-outs (assets of questionable value that nevertheless inflate restricted payments and debt incurrence carve-outs). All four use soft lien caps that impose long-term, open-ended liens dilution/subordination risk by allowing liens incurrence if a leverage ratio test is met. Investors in the new issuances by J. Crew, Claire¡¯s, and Jo-Ann will immediately be subject to a high degree of liens subordination. Benchmarking the amount of secured debt as a ratio of secured debt to consolidated net tangible assets (¡°CNTA¡±), J. Crew (1.44x), Claire¡¯s (1.27x27) and Jo-Ann (0.7x) have significant secured debt/CNTA ratios. CNTA, based on PP&E or other tangible assets, can serve as a useful guide for a bond¡¯s recovery prospects for unsecured or second-lien holders in a bankruptcy scenario. The table below compares the four retailers across several key variables. Each issuer¡¯s restricted payments, permitted investment and debt incurrence carve-outs are to be compared to the 2010 market medians, which were 5.4%, 5.2% and 16.9%, respectively. Figures are in US$ millions. 25
26 27
This observation does not pertain to Edcon (Proprietary) Ltd., whose bond we did not assess in a covenant quality snapshot. Either or both a restricted payments and debt incurrence covenant are absent. Numerator includes only 1st lien debt (senior to the 2nd lien note issuance).
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Issuer
Notes Rating
Security
RP Carveouts
Perm. Invest. Carveouts
Debt Incur. Carveouts
GW + Intangibles / Cons. Total Assets
Use of Total Assets-Based Carve-outs
Cred. Fac. Headroom Under Carve-out
Headroom Under Soft Liens Cap
Secured Debt / Con. Net Tang. Assets
EBITDA Addbacks
Burlington Coat Factory Claire's Stores J. Crew Jo-Ann Stores
Caa1 Caa3 Caa1 Caa1
Unsecured 2nd lien Unsecured Unsecured
3.8% 11.4% 8.4% 10.7%
2.9% 9.1% 7.0% 7.0%
6.1% 11.7% 17.3% 21.6%
10.3% 76.0% 77.2% 52.1%
Very limited Extensive Extensive Extensive
0 0 350 250
4 0 23 61
0.44 1.27 1.4 0.7
Moderate Moderate Aggressive Aggressive
Europe and South African sponsored issuance In Europe, Palace Entertainment Holdings, LLC sold $430 million of (P)B2-rated senior secured notes due 2017 with an above-average level of protection for a sponsored deal (sponsors: Candover Partners Ltd. and OB Partnership). Total carve-outs in all three categories are close to the 2010 median for the high-yield market. The package includes a soft liens cap (secured debt ratio of 4.5x) and minimal limitations on sale/leasebacks. Unlike most recent sponsored transactions, most of Palace¡¯s carve-outs are tied to hard, dollar caps rather than a total-assets growth basket. Hard $/€based caps are an above-market structure in the sponsored space. In South Africa, FoodCorp (Proprietary) Limited (sponsors: BlueBay and Capitau) offered EUR 415 million of senior secured notes due 2018 and Edcon (Proprietary) Limited (Bain Capital) sold EUR 317 million and US$ 250 million senior secured notes due 2018. We assigned prospective (P)B2 ratings to each. FoodCorp¡¯s covenant package offers superior protection when benchmarked against recent US sponsored issuance.
Covenant-lite issuance Two weeks ago, we assessed a covenant-lite bond in the US by Wyndham Worldwide Corporation, which went to market with $250 million of senior unsecured notes due 2021 (Ba1). UK issuer Virgin Media