Business Outline > Credit Enhancement

"Credit Enhancement" is another effective structured finance tool.

In order to arrange financing for a corporation's segregated assets, it is essential to analyze the isolated cashflow and profitability, as well as the underlying risk. A common method is to obtain a credit rating from rating agencies such as Standard & Poor’s and Moody’s. The higher the credit rating, the better the pricing and the easier it is for the notes to be placed. "Credit Enhancement" is a tool often used to obtain a higher credit rating. It is a fairly common financing technique in the U.S. and Europe to obtain credit enhancement from insurers with high credit ratings.

The participation of a highly rated insurer enables the financing scheme to attract a variety of fund providers.

The next question is "how to find such insurers". Unfortunately, the credit enhancement market is still an immature market in Japan, hence such insurers must be sourced from overseas markets notably London. We have already established a joint venture in Japan FinTech Capital Risk Solutions Incorporated with Jardine Lloyd Thompson Limited, which is a capital risk solutions arm of Europe's largest insurance broker, Jardine Lloyd Thompson Group.

In addition, we established a reinsurance company called Crane Reinsurance Limited (a wholly owned subsidiary of Stellar Capital AG in Switzerland) in Bermuda in March 2006 with the aim of further developing credit enhancement opportunities. With a credit enhancement provider within our group, we are now able to provide credit enhancement at short notice, warehouse such risk for a certain period of time, and place such risk externally at a later stage.
Crane Reinsurance Limited expects to generate stable income from underwriting reinsurance of fire and property insurance originated by our clients.
Our group intends to make full use of "credit enhancement" provided by Stellar to offer more effective "structured finance" to our clients.

			Corporation A (finance company) wanted to find new funding sources other than its core bank and decided to issue asset-backed-securities (ABS) notes backed by its financial receivables.
			1. The application of a senior-subordinated structure enabled the senior tranche of the ABS notes to be rated "AAA", but the financial evaluation by investors of the originator who also acted as servicer was not favorable, hence the ABS notes would not be placed satisfactorily. 2. The system of Corporation A is far from appropriate levels required by rating agencies, hence the rating action could take months.
			New credit criteria were created by extracting and applying some of the most important rating criteria of the rating agencies. These new criteria were used to persuade a mega European insurer (AA rated) to provide a financial guaranty. ABS notes issued by Corporation A were consequently rated AA and were quickly oversubscribed.

			A major consumer loan company, Company B, decided to securitize its loan receivables as a diversified funding source. However, it was necessary for Company B to maintain the loan on its balance sheet to maintain its corporate ranking in the industry.
			1. Investors are likely to show greater concerns on the corporate credit risk of Company B (BBB rated) than on the credit risk of the loan receivables. 2. Rating agencies also view the risk of the notes as corporate risk, hence the credit rating cannot be higher than that of Company B.
			A report stating the financial strength of Company B was prepared. Another evaluation report on the resale price of Company B's loan receivables was prepared. A U.S.-based insurer (A rated) was willing to provide a financial guaranty and the ABL notes were fully placed with a credit rating of A.

			Corporation C, a major communications company, is currently collecting online shopping receivables on behalf of its client. Corporation C has been requested by online shopping sellers to provide a payment guaranty.
			1. As the credit control of the online shopping buyers is insufficient, the non-payment ratio cannot be estimated. 2. Corporation C has not established a satisfactory subrogation system.
			Analysis of past non-payments was prepared for an insurer to evaluate the risk. The insurer agreed to provide financial guaranty enabling the risk of Corporation C to be wholly transferred to the insurer.

			A major leasing company, Company D, has not set a fixed credit line to a major lessee. If Company D is requested by the lessee to enter into more lease transactions, Company D may either turn down the offer or syndicate the lease transactions to other lessors.
			The lessee may realize that their credit line is low and turn to other lessors, or other lessors may approach the lessee.
			A syndicated lease is presented to the lessee as a single lessor transaction by having an insurer provide a financial guaranty on the portions held by other lessors. Payments to other lessors were also discounted due to the high credit rating of the insurer and Company D's profitability has improved.

			Apartment developer, Corporation E, is planning a new apartment development worth JPY 5.0 billion (land: JPY2.0 billion, building: JPY1.9 billion, cost: JPY0.1 billion, profit: JPY1.0 billion).
			Banks can only lend up to JPY2.5 billion secured by mortgage on the land whereas Corporation E needs JPY4.0 billion.
			Analysis of Corporation E's track record of past developments is prepared along with the financial data of Corporation E. A U.S. insurer (A+ rated) is located as financial guaranty provider and the bank provides JPY3.5 billion loan.

			Board members of a medium-sized insurance broker, Company F, decided to become independent by purchasing shares owned by the parent company. JPY10 billion funds were required for the MBO.
			Funding was provided via JPY3.0 billion equity and JPY5.0 billion investment by venture capitalists, leaving a shortfall of JPY2.0 billion.
			A report was prepared analyzing the past track record of Company F. In addition, the personal guaranty of board members was obtained, allowing an A+ rated insurer to provide financial guaranty for JPY2.0 billion. Venture capitalists thus increased their investment to JPY7.0 billion and the MBO was completed successfully.

			Corporation G, which holds certain animation copyrights, decided to fund the movie film cost by issuing ABS notes backed by future receivables.
			Future receivables are the most difficult receivables to be securitized as the cashflow derived is not fixed even if the loan-to-value is minimized.
			The historical track record of the animation copyrights royalty income from the animation film was analyzed. A further report on its competitiveness with other animation film companies and financial information on Corporation G was prepared. A financial guaranty by an AA rated insurer minimized the indefinite risk associated with the royalty income and the securitization was successfully closed.