Second Lien LoanCollateral loan
Supplementary funding - what is it?
In the UK, however, it is not only the difficult economic environment that encourages the growth of secondary funding. What is crucial is that the nature of the players operating in the UK collateralised credit market has developed. Now it is not only the incumbent banks that are participating. They' re leveraged as well.
It is likely that new entrants such as these will speed up the transformation and expansion of the UK secondary endowment policy markets. When the United States is an indication, this is likely to expand rapidly: the value of secondary endowment policy lending in the United States was less than $2 billion a year between 1997 and 2002, nearly $4 billion in 2003, and a peak of $12 billion in 2004.
So what's a second home? Is there any special feature of the British subprime mortgage markets that could further stimulate the increase in second mortgages? Supplementary funding - what is it? Second-liend finance comprises a variety of financial instruments ranging from forward credits to high-yield debt. This may include granting credit to a borrower on the strength of assets or cash flows, or a mixture of both.
It may be backed on the same property as the first placeholder or on a totally different investment category than the first placeholder. However, the main feature of the secondary placement is that (if the secondary placeholder shares the same property as the primary placeholder) the creditors arrange that, in the case of execution of collateral and liquidation of the property, the revenue from the execution will first be credited to the first rank securities owner and only after disbursement by the first rank securities owner will it be credited to the second rank securities owner.
With this general rule in mind, secondary creditors have worked with senior creditors in the United States on many different kinds of funding structures. Generally, both the primary and secondary loan providers are hedged against exactly the same group of asset classes. Second-ranking creditors calculate that, in an execution scenario, they are protected against the value of these estates after disbursement by the first-ranking creditor.
As an alternative, different groups of estates can be used to protect the first tenant against the second tenant. For example, the senior creditor could be protected against debt and stock-in-trade, while the junior creditor could be protected against a device or immovable object. Second Lien financiers in this position are not backed by First Lien financiers in the strict meaning of the word, as the financiers are backed by various pool types of collateral.
The " secondary market " owner may, however, agree to certain limitations on his right of execution or conditions of priority which improve the overall exposure of the " primary market ". Lastly, a secondary creditor on the high-risk side of this type of financing could include in its calculation an item of'enterprise value' that, if the value attributed to the whole company, in addition to that of the single asset that secures its loan, were to be enforced, would allow the secondary creditor to disburse the creditor in full if the debtor is acquired as an entity.
Since the ranking between the first and second placeholders is critical for this kind of funding, the bargaining of the relative position between the two creditors (or loan groupings in public) is critical. whether there should be limits or limitations on the first or second placeholder's capacity to raise the amount of indebtedness granted to the particular debtor and backed by his lien; the conditions under which the second placeholder might be able to assert his lien (or perhaps compel the first placeholder to do so);
Limitations or bans on changing the conditions of the first-ranking and secondary debts; in certain circumstances, whether the second-ranking owner has the possibility to "buy out" the debts of the first-ranking owner in order to assert himself in the capacity of the first-ranking owner in execution. Borrowers will also have doubts about the conditions of the arrangement between the first and second owners (e.g. the limitations that may be imposed on them if they receive more cash either from the first or second owner or from a third person, even if that third person is unsecured).
It is unlikely that in certain circumstances (particularly in the case of Leveraged Finance) the lien holder will be the sole investor. It may also be a Meczanine financier (possibly unsecured) and/or the financier who finances (on the assumption of deferment of payments), as well as private investors. Secondary market funding in the US has expanded over the last two to three years as a result of a number of elements, some of which are already in place in the UK or are likely to be in place in the near-term.
Firstly, the cooling of the economy has led many US firms to view second-hand credit as a resource for emergency funding (or perhaps refinancing). With the deterioration of the development of their businesses and the increase in interest rate, it became more difficult for these enterprises to obtain cash flow credit from more traditionally established credit resources and therefore they tried to obtain outside funding from other suppliers.
Secondly, alternate financiers reacted to this market need. In the second category, typically non-banks, special purpose vehicles, insurance enterprises and middle income vehicles are used. This also includes hedge fund investments. Each of these depositors have been looking for the higher yields on their liquid assets that this kind of funding offers. Especially for Hedge Fund the attraction was clear.
As the size of the deals grew in the acquisitions financingsector, asset allocation became more sophisticated and there was room for the growth of secondary customer loans. In the case of'high-ranking' prime collateralised creditors,'subordinated' secondary creditors often closed the financial gaps to which they could not 'extend'. The secondary endowment policy was generally less expensive for the borrower than providing endowment loans and, unlike the incumbent supplier of venture-capital, was not diluting (particularly appealing to the owners of the lender).
Thirdly, certain categories of creditors, in particular asset-based creditors, have become accustomed to the concept of including the second category creditor in their operations. Vermögensbased creditors direct their interest to the basic value of a borrower's collateral ised by the value of the credit commitment and the collateral value of the collateral. In other words, asset-based creditors are usually more convenient to include a second-line creditor in the funding formula than conventional cash flow creditors.
A creditor has a better grasp of what kind of collateral his loan is secured by and what value it has when judged by his commitment to a debtor. Thus, unlike a cash-flow provider of credit, an asset-raising provider of credit is in a better situation to assign the value of an asset to a secondary provider of credit (over which it has a securities itself or which is otherwise unencumbered) without fearing that this will affect its own credit standing (provided that the intermediate and execution positions are satisfactory).
There is an added appeal for asset-based creditors that second leasing often improves their own range of products for borrower who can continue to use their wealth through a second lien in combination with the first lien liability of the asset-based creditor. A number of factors lead to the assumption that secondary funding will evolve here, some of which will be share with the US and others with the UK markets.
The granting of second loans is such an excellent chance - for hedge trusts as well as for other types of investor. There has been a change in the UK investing (and credit) communities. They now include specialist financial institutions, mutual benefit schemes and hedging fonds as well as asset-based creditors and legacy banking creditors. In addition, the expansion of the UK'' Leveraged Financing markets has led to a need for more innovation in funding arrangements to support some of the major deals.
Such transactions may now need a combined approach of priority loans, second-liend financings, junior unsecured and/or meszanine financings and capital financings to be successful. Thus, as leading financiers and equity sponsoring firms support large and ever more sophisticated transactions, there is likely to be increased interest in this kind of credit.
Sophisticated bond agreements offer more opportunity for investments, not only in the initial phase but also in the second phase, especially for institutional clients such as venture capitalists. Given the increased level of backed credit in the UK, second tier credit is likely to become more understandable, especially among borrower groups. You will see that perhaps more effective use can be made of financial instruments if they are made available to a number of creditors, each of whom has a special appreciation of the financial instrument and how debts can be incurred against it - in effect, the total of (debt) portions may be greater than the whole (achievable by a sole creditor).
It should contradict the concept of the incumbent borrower. Fixed income credit allows the borrower to use a set of financial instruments that could previously have easily been added to the general fund by a cash flow borrower without any actual value being attributed to them. For example, financial backers and creditors focus on intangible items such as IP to determine whether such an item could sustain a second line loan (and thus generate a higher actual prepayment than a conventional cash flow deal).
Now the US mortgage brokerage has a low level of official solvency; the official investment community has reached critically low levels; the asset class comprises a broader spectrum of "non-bank" financial institutions such as venture stock companies; the credit syndication industry is more like the stock exchange (i.e. the easy transfer of debts between investors); whereas conventional relation bankings have almost disappear.
It is important that these are all elements that should make hedging fund strength. None of these trends is likely to promote the expansion of secondary market loans here. Apart from the changes already noted, there are special conditions in the United Kingdom which are likely to contribute to the development of secondary funding and to opening up new possibilities for the hedge fund industry.
Firstly, despite the reform introduced by the Enterprise Act and efforts to make the UK bankruptcy system more judicial, there is no doubt that there is still much greater assurance of results for a secure creditor in the UK than in the United States.
While it is less likely than an uncollateralised borrower to have a second collateralised borrower, in the United States it is still possible for a second collateralised borrower to be "squeezed" by order of the insolvency tribunal. Consequently, the second placeholder's capacity to defend his government positon (in reality his "place at the table") is much safer than in the United States.
Investment in secondary bonds in the UK is probably a great deal safer for a hedging funds than in the United States. Secondly, following the abolition of forced management in the United Kingdom, the liquidator must take into consideration the objections of all management lenders.
Not only the priority collateralised lender (who in most cases will be his nominee) and the uncollateralised ones, but also the secondary lender belong to this group. There is no question that he will be emboldened to do so by the fact that a noisy, second-ranking owner, such as a hedge-fund, is present! Second country credit in the United Kingdom can only be a question of timing until it becomes another viable means of providing finance for borrower alternatives and a useful complement for priority backed credit providers (in particular asset-based lenders) by increasing the volume of their business and broadening the scope of the financial circumstances they can deal with.
This already includes corporate financings to cope with challenging trade conditions, fund costly debts or make better use of their asset values. There will be a growing spectrum of non-senior financial possibilities. One of these possibilities is secondary financing. With the growth and development of the British markets, the possibilities for investments by hedging fonds will certainly rise.
Mr. Miller advises various banks and companies on acquisitions, structuring and asset-based finance deals, particularly those with a cross-border scope.