In the six months since Standard & Poor's Ratings Services' last industry report card, there have been a number of key developments in the European corporate securitization universe. We have seen rating activity across all sectors, prompted by rating actions on monoline insurers. Industries under the spotlight include the public house (pub) sector, where the effect of the first winter under the U.K. smoking ban so far appears minimal, and the social housing sector, where recently announced U.K. government policy changes will take effect in 2009. In insurance securitization, issuance reached record levels in 2007—although these transactions closed before October. The opposite was true for the health care sector, where post-acquisition redemptions continued.
Transaction performance across the asset class is relatively stable. European corporate securitization transactions continue to perform in line with our expectations, with roughly the same number of upgrades as downgrades of Standard & Poor's underlying ratings (SPURs) over the past six months. Despite the difficult trading conditions predicted for the year ahead, we expect underlying asset performance to remain within our base-case estimates.
While underlying ratings have generally been stable over the past six months, this has not been the case for ratings guaranteed by monoline insurers active in the European corporate securitization space. A number of rating actions affecting monolines such as Ambac Assurance Corp., CIFG Europe, Financial Guaranty Insurance Co., MBIA Insurance Corp., and XL Capital Assurance Inc. have led to rating activity for the corporate securitizations.
Monoline-insured debt reflects the rating on the respective monoline insurer. The downgrade or CreditWatch placement of a monoline accordingly results in a corresponding action to the debt insured, or guaranteed, by it. Ultimately the ratings in the corporate securitization transactions will correspond to the higher of the monoline insurance rating and the underlying rating in the respective transaction.
New issuance remains subdued, meanwhile, but we are continuing to receive enquiries for market value structures and assessments of real estate finance for a number of sectors.
Rating actions
The trend toward redemption in the health care sector is winding down with the withdrawal of the UK Hospitals No. 1 S.A. transaction in October 2007, which followed cash collateralization in August. Outside the health care arena, there were two other redemptions: UNITE Finance One PLC, a student housing securitization, and the class B notes issued by Romulus Finance S.r.l., a transaction securitizing Aeroporti di Roma SpA in Italy.
In water and transportation—the largest corporate securitization segments—we raised the senior secured debt ratings on Dwr Cymru (Financing) Ltd. to 'A' from 'A-' in December 2007. We also raised the long-term subordinated debt rating on Dwr Cymru's class C bonds to 'BBB+' from 'BBB'. This followed sustained deleveraging at parent Glas Cymru Cyfyngedig. February 2008 saw another upgrade, when we raised to 'B' from 'CC' the SPUR on the senior secured bonds issued by Metronet Rail BCV Finance PLC and Metronet Rail SSL Finance PLC (the Metronet companies) to reflect our view that there is no longer a risk of an imminent default. The ratings remain on CreditWatch with positive implications.
Corporate securitization downgrades continue to reflect specific issues at the borrower level and are not necessarily tied to industrywide trends. In the pub industry, for instance, Globe Pub Issuer PLC was the only pub transaction to be downgraded despite the inclement summer trading months and smoking ban. Similarly, the November 2007 downgrade of the Metronet companies' loans and bonds reflected uncertainties in the public-private partnership (PPP) administration process and the ultimate restructuring of the Metronet companies to deliver their responsibilities under their respective service contracts. And the downgrade of Romulus Finance's series B notes reflected financial profile factors specific to Aeroporti di Roma.
Table 1
European Corporate Securitization Recent Rating/Outlook/CreditWatch Actions*
*This table addresses underlying rating actions only. Rating actions are between Oct. 10, 2007 and April 10, 2008. NR—not rated. SPUR—Standard & Poor's underlying rating.
New issuance
Issuance volumes have slowed dramatically, with only £608 million of new issuance between Oct. 10, 2007 and March 31, 2008. Across the board, recent issuance of asset-backed securities (ABS) has been hampered by, among other things, yield compression in the loan market, coupled with general negative market sentiment and widening spreads for securitization structures since the second half of 2007. We note that both Avondale Securities S.A. and the Marston's Issuer PLC tap were privately placed.
We reiterate our view that the downturn in the credit cycle could result in a future increase in corporate securitization issuance volume. Indeed, with banks showing reluctance to provide covenant-light loans, originators will need to find other solutions to finance acquisitions or restructuring loans—and corporate securitization could be seen as an appealing exit strategy.
Table 2
European Corporate Securitization New Issuance Rated By Standard & Poor's*
Issuer
Closing date
Asset type
Origin of assets
Amount (£000s)
Rating at issuance
Thames Water Utilities Cayman Finance Ltd.
October 2007
Water
U.K.
0¶
BBB+
Avondale Securities S.A.
October 2007
Insurance
Ireland
278,100
AAA; A-(SPUR); A-
Marston's Issuer PLC—tap
November 2007
Pubs
U.K.
330,000
A, BBB+
*From Oct. 10, 2007 to April 10, 2008. ¶£10 billion program limit. SPUR—Standard & Poor's underlying rating.
Issuer Review
Transportation
In the past six months, we have taken negative rating actions and outlook revisions on guaranteed 'AAA' debt ratings of several securitized debt tranches of the European transportation sector that are wrapped by financial guarantee insurance companies (monolines) following the related rating actions on the respective monolines. These changes have not affected the intrinsic quality of the European transportation securitizations, the majority of which have performed as expected.
Away from these events, the parent company credit quality of a couple of our rated transactions has declined since the last report card. The November 2007 downgrade of Aeroporti di Roma to 'BBB-/A-3' from 'BBB/A-2', for instance, mainly reflected a lower-than-expected improvement in its financial profile and limited visibility on potential future improvement over the next couple of years. This is primarily due to the prolonged lack of regulatory clarity surrounding aviation revenue determination.
Elsewhere, on Feb. 5, 2008, the senior funders to the Metronet consortium exercised the put option under the PPP contract, which triggered the payment to lenders of a termination amount of £1.74 billion. This resulted from the consortium's continued underperformance against its obligations. The migration of the ratings from the 'BBB+' level originally assigned in 2003 to speculative-grade (and even to 'D' for the senior bank loans) within five years shows that there are key operating risks in such transactions. Nevertheless, the recent payment to lenders also illustrates that the termination arrangements for PPP contracts can often result in a high recovery of outstanding debt.
Table 3
European Corporate Securitizations—Transportation
Primary participant[s]
Ratings*
Date of initial issuance
Analyst[s]
Channel Link Enterprises Finance PLC
This transaction is secured by a permanent facility to the Channel Tunnel Group Ltd. and France Manche S.A.
The Channel Tunnel Group Ltd. (sterling tranches) and France Manche S.A. (euro tranches)
AAA; A-; BBB(SPUR); BBB
Aug. 20, 2007
Alexandre de Lestrange; Michela Bariletti
The U.K. security includes first-fixed and first-floating charges over freehold and leasehold properties, charges and assignment over the principal project agreement and insurances, charges over bank accounts and intellectual properties, and a first-floating charge over all present and future assets. In France, security includes security over debt, pledges over bank accounts, trademarks, other intellectual property, and shares in the Eurotunnel group members in France. Eurotunnel performed above budget in 2007 in terms of revenue. On a continuing basis, revenue fell 6% to €775 million. Excluding €94 million of year-earlier fixed minimum user charge (MUC) payments (discontinued in November 2006), Eurotunnel revenue in 2007 was up 6%. The growth in revenue (excluding MUC) for the third consecutive year is largely the result of the passenger and truck shuttle operations. Ratios are likely to be slightly higher than expected in 2008, reflecting that Eurotunnel is one year ahead of the management business plan presented at the time of the restructuring. In March 2008, Groupe Eurotunnel S.A. announced the total subscription of its issue of subordinated deferred equity securities for €800 million. The purpose of this issue was to enable the cash redemption of a first tranche of the notes redeemable in shares issued by Eurotunnel Group U.K. PLC in June 2007 as part of the safeguard plan. The redemption is expected on April 10, 2008, and will enable savings of €35 million in interest in the full year.
CTRL Section 1 Finance PLC
This is a securitization of government paid or guaranteed track access charges from Section 1 of the high-speed rail link between the Channel Tunnel and Fawkham Junction in Kent.
CTRL (U.K.) Ltd.; London & Continental Railways Ltd.
AAA
Nov. 12, 2003
Florian de Chaisemartin
The domestic capacity charge payments payable by the government and track access charge payments payable by Eurostar (U.K.) Ltd. and guaranteed by the government continue to be made in full and on time. The smooth transition of the London Eurostar operations to the St. Pancras station and the associated full commissioning of the high-speed line from November 2007 further underpin the expected reliability of the debt servicing.
Fixed-Link Finance B.V. (FLF)
This transaction involves the securitization of parts of Eurotunnel debt. Eurotunnel is the operator of the Channel Tunnel.
Eurotunnel S.A.
AAA/Stable; C/Negative
Nov. 27, 2001
Alexandre de Lestrange
FLF is a special-purpose vehicle that used to be related to Anglo-French Channel tunnel infrastructure operator Eurotunnel S.A. FLF's underlying assets previously consisted of Eurotunnel's junior debt (51% of Tier 1, 32% of Tier 2, and 32% of Tier 3). In line with Eurotunnel's debt restructuring, Eurotunnel's senior debt, Tier 1A, Tier 1, and Tier 2 were fully repaid in cash at 100% of par including accrued interest on June 28, 2007. Since this payment, the class A and class B notes have been wholly secured by cash: At Oct. 30, 2007, the total cash balances of FLF were approximately £450 million and €760 million, respectively. Under the cash management agreement, cash held by FLF must be invested by the cash manager (Citigroup) in eligible investments. Given market upset, the assets have been left in liquid funds to avoid any risk of capital impairment. The stable outlook on the class A, class B, and class G notes reflects our expectation that cash, and earnings thereon, will enable FLF to service all of its debt and to repay its outstanding senior (class A), senior subordinated (class B), and guaranteed (class G) notes at par plus accrued interest in January 2009. The forecast principal recovery on the class C notes is about 80%. The current plan is to unwind FLF in 2009 when its bonds become freely prepayable.
Infrastrutture SpA
This is a securitization of a high-speed railway system in Italy, backed by the Italian government.
Rete Ferroviaria Italiana SpA and/or Treno Alta Velocita SpA
A+
Feb. 5, 2004
Giorgio Frascella
Originally the notes issued under the Infrastrutture program relied on the proceeds deriving from the railway project, net of certain permitted payments. They also relied on an indirect recourse to the Republic of Italy through state contributions covering both the timely payment of interest during the construction of the railway project and the repayment of principal during the railway exploitation phase. Each year the government's budget law provided the amount necessary to make the required payments under the notes, net of the collections on the project, which during the construction period were zero. We understand that this framework changed in 2007 as that year's budget law stated that all payments of interest and principal due under the program would be assumed by the Republic of Italy. Accordingly, we are now treating the program as ordinary debt of the Italian Republic.
On Feb. 5, 2008, the senior funders to the Metronet companies exercised the put option under the PPP contract, which ultimately resulted in the payment by London Underground of £1.74 billion to funders as a termination payment against outstanding liabilities. As a result, the guaranteed obligations due for both companies are now cash backed. There has, to date, been no decision as to whether the relevant monoline insurers—Ambac Assurance U.K. Ltd. and Financial Security Assurance (U.K.) Ltd.—will continue to meet debt service obligations under their guarantees on an ongoing basis or whether they will opt for an early redemption. For the bank loans, we believe that a capital loss has been incurred, despite the significant termination payment. Consequently, the ratings on the loans were lowered to 'D' and subsequently withdrawn.
Romulus Finance S.r.l.
This transaction involves the securitization of airports in Rome.
Aeroporti di Roma SpA (AdR; BBB-/Stable/A-3)
AAA; NR
June 25, 2003
Monica Mariani; Alexandre de Lestrange
The improvement in AdR's financial profile has been lower than expected, and there is limited visibility on potential future improvement over the next couple of years. This primarily reflects the prolonged lack of regulatory clarity surrounding aviation revenue determination. In late 2007, AdR's 96% owner, Gemina SpA, successfully completed a €1.25 billion capital increase and subsequently repaid the acquisition debt it incurred when buying out a 45% stake in AdR held by Macquarie Airports (MAp) in July. Romulus Finance's series B notes were redeemed on March 31, 2008.
THPA Finance Ltd.
This transaction involves the securitization of port facilities in northeast England.
PD Ports PLC
A; BBB; BB
April 18, 2001
Roneil Thadani; Florian de Chaisemartin
In general, performance to date is slightly outperforming our base-case expectations. Rolling 12-month EBITDA for the period to December 2007 was £41.4 million, an increase of 4.3% year on year. As a result, following the full redemption of the class A1 notes, the EBITDA debt-service coverage ratio (DSCR) has been well above the 1.25x covenanted level for the past year. The rolling 12-month EBITDA DSCR for the period to December 2007 was 2.08x, up from 2.01x a year ago. In February 2008, PD Ports received the final clearance from the U.K. Department for Transport to proceed with construction work to develop the deep sea Northern Gateway Container Terminal (NGCT) at Teesport in northeast England. NGCT development costs could be up to £300 million. However, the securitization structure restricts the ability of THPA to develop and operate NGCT without relevant covenants being altered significantly. Once operations start at NGCT, in summer 2009 at the earliest, THPA will nevertheless benefit from additional conservancy income from increased vessel movements in its capacity as the Statutory Harbour Authority. So far, no firm decisions on the timing and the nature of THPA's involvement in NGCT have been made.
Tube Lines (Finance) PLC
This is the securitization funding structure for the management of the infrastructure of three London Underground lines.
At TLL, the operating company, overall performance was good in the fourth quarter of 2007. The Piccadilly and Jubilee lines remained above the benchmark, while the Northern Line had a mixed performance. Following the September 2007 signing of an agreement with Alstom to align the Northern Line fleet maintenance arrangements with the terms of Tube Lines (Holdings) Ltd.'s service contract, Alstom's performance has shown signs of improvement. All major capital projects remain largely on target, including the stations program, although there are concerns about the expenditure incurred on upgrades to stations and the Jubilee and Northern lines. Tube Lines' financial performance is as budgeted, and the company continues to benefit from strong liquidity through cash holdings.
West Coast Train Finance PLC
This transaction involves the securitization of the Advanced Tilting Train fleet in the U.K., built by Alstom and operated by Virgin Trains.
Angel Leasing Co. Ltd.
A/Stable
Oct. 26, 1999
Paul Lund
The fleet is delivering satisfactory performance, despite the fleet size being reduced to 52 trains from the original 53 nine-car trains after one train was written off in a crash in Cumbria in February 2007. The original transaction envisaged 48 eight-car trains, when 140 mile-per-hour (mph) running was contemplated, which has since been reduced to 125 mph. The trains are running reliably with a corresponding improvement in West Coast service performance, and the service has substantially increased its share of the London to Manchester and Liverpool route. Train use is expected to increase, with a higher-frequency timetable. The reorganization of West Coast Traincare, responsible for maintenance, is not expected to affect the transaction. The DSCR and repayment of principal remain in line with expectations, although the coverages are somewhat aggressive. The transaction takes into account the risk that trains will not be re-leased at the end of the existing train operating franchise, but this is offset by the size and complexity of the fleet, the requirement to maintain service standards beyond 2012, and the lack of alternative fleets that are able to offer a similar service.
*Ratings are as of March 31, 2008. SPUR—Standard & Poor's underlying rating.
Pubs
The effect of the smoking ban over its first winter has been in line with our expectations: the industry's loss of about 9% of beer volumes has been offset by growth in food sales and premium products. Generally speaking, securitizations with portfolios of higher-than-average quality have seen like-for-like sales range broadly between positive 1% and negative 1%, which is consistent with our base case and well above our 'BBB' stress levels.
We expect the smoking ban to continue to hit results at least until May 2008, when outdoor smoking areas should start to offset some of the negative effects as consumers get used to the idea and return to old habits. In addition, we expect some uplift in sales during the summer period as in our view it is unlikely that this year's weather will be as poor as that seen in 2007. We therefore consider that most of the parent companies in the securitizations will achieve marginally positive like-for-like sales in the second half of 2008. The exception to this is Globe, where we expect a more permanent effect from the smoking ban to lead to a continuing decline in sales, although we expect the rate of decline to slow.
Mitchells & Butlers PLC crystallized a £274 million loss on hedges taken in preparation for its uncompleted property transaction with R20 Ltd. The resulting fallout led to the resignation of the group's finance director and an ensuing strategic review, the results of which are expected on May 20, 2008, along with the interim results. The hedges were held outside the securitized estate and do not affect the transaction's cash flows.
Table 4
European Corporate Securitizations—Pubs
Primary participant[s]
Ratings*
Date of initial issuance
Analyst[s]
Globe Pub Issuer PLC
This transaction is backed by the cash flows of 442 tenanted pubs.
Globe Tenanted Pub Co. Ltd.
BBB+; BBB-
June 9, 2006
Roneil Thadani; Olli Rouhiainen
Globe's trailing 12-month results remain weak. At Dec. 1, 2007, rolling four-quarter EBITDA was £28.9 million, down 8% from the previous quarter. This highlights the effect of the smoking ban on Globe's portfolio, which has been far worse than in the other securitized transactions. We believe that Globe's current estate will continue to suffer, although the estate review could see the worst-performing pubs disposed of and proceeds used to buy better-quality pubs from Scottish & Newcastle PLC, which could have a beneficial effect from next year. If this fails to happen, or if Globe underperforms our lowered expectation, the ratings could come under further pressure.
Greene King Finance PLC
This transaction is backed by the cash flows of 1,627 pubs, split between 1,125 tenanted pubs and 502 managed pubs.
Greene King Retailing Ltd.
A; BBB
March 7, 2005
Roneil Thadani; Olli Rouhiainen
The securitization is performing in line with our run-rate expectations. Operating performance has been steady, with rolling two-quarter EBITDA of £78.6 million and rolling four-quarter EBITDA of £164.9 million as of Oct. 14, 2007. The free cash flow (FCF) DSCR ratio was 1.9x on both a rolling two-quarter basis and rolling four-quarter basis, against a default covenant of 1.1x. Greene King PLC, the ultimate parent company in the securitization, has reported its interim management statement for the 38 weeks to Jan. 20, 2008. Managed sales were down by 0.1% and the tenanted business reported a sales increase of 0.2%, in line with other securitizations. We have no reason to expect that the securitized estate has performed significantly differently. The ratings continue to account for underlying business risk in the U.K. pub industry and the securitized assets of the borrower.
Mitchells & Butlers Finance PLC
This transaction is backed by a portfolio of 1,713 managed pubs.
Mitchell & Butlers Retail Ltd.
AAA; A; BBB+; BBB
Nov. 13, 2003
Roneil Thadani; Olli Rouhiainen
The Mitchells & Butlers transaction continues to operate in line with our expectations. In the year to Sept. 29, 2007, EBITDA was £420.2 million, against a run rate of £402.0 million, and FCF was £307.0 million. Debt coverage ratios also remain healthy, with the EBITDA DSCR at 2.4x and the FCF DSCR at 1.7x, against a default FCF DSCR covenant of 1.1x. Mitchells & Butlers PLC, the ultimate parent of the securitized group, recently reported in a trading statement that the group has seen like-for-like sales growth of 0.7% over the first 17 weeks of the new financial year. We expect the securitized estate to have a broadly similar performance, thereby maintaining a healthy position for the ratings. The £274 million cost of closing out the hedge position relating to the failed property venture with R20 Ltd. has not affected the performance or investment plans of the securitized portfolio given that the property venture was contemplated at the ultimate parent company level.
Marston's Issuer PLC
This transaction is backed by the cash flows of 1,474 tenanted and managed pubs.
Marston's Pubs Ltd.
A; BBB
Aug. 9, 2005
Olli Rouhiainen; Roneil Thadani
Marston's tapped the transaction in November 2007. There has been no updated financial report since the tap closed, but Marston's PLC, the parent in the securitization, has reported steady results for the 24-week period to March 15, 2008. The managed pub division reported 0.3% like-for-like sales growth, while the tenanted estate saw like-for-like profits decline slightly. These results should mean that the securitization is still on course to meet post-tap run-rate EBITDA of £147 million in 2008, with an expected rolling four-quarter FCF DSCR of 1.74x.
Punch Taverns Finance B Ltd. (formerly Pubmaster Finance Ltd.)
This transaction is backed by a portfolio of 2,744 leased and tenanted pubs.
Punch Taverns (PML) Ltd.
AAA; A; BBB+; BBB
June 30, 1999
Olli Rouhiainen; Roneil Thadani
The transaction continued to perform in line with our expectations in the 52 weeks to Aug. 18, 2007. EBITDA was £163.7 million, comfortably above the run rate of £157.0 million at the closing of the latest tap in August 2005. This mainly reflected increased beer revenue and rent in the portfolio, helped by recent investments. Since the last communicated investor report, Punch Taverns PLC (Punch Taverns), the ultimate parent company of Punch Taverns Finance B (Punch B), has communicated to the market that Punch Taverns' leased estate, of which Punch B is a part, recorded a like-for-like sales decrease of 0.8% for the 20 weeks to Jan. 5, 2008. This is considered good, taking into account that results include the first winter under the smoking ban, and is well inside our base-case assumptions. As of Aug. 18, 2007, the EBITDA DSCR was 2.26x and 2.22x on a rolling two- and four-quarter basis, respectively.
Punch Taverns Finance PLC
This transaction is backed by the cash flows of 4,035 leased and tenanted pubs.
Punch Pub Co. (PTL) Ltd.
AAA; A(SPUR); A; BBB+; BBB
Nov. 3, 2003
Olli Rouhiainen; Roneil Thadani
The transaction continued to perform in line with our expectations in the 52 weeks to Aug. 18, 2007. EBITDA of £253.1 million was below our expected run-rate of £264.0 million, however, as the pubs added in the July 2007 tap have not yet contributed a full 12-month cash flow. We expect the transaction to continue to operate below run-rate EBITDA in the short term, reflecting lower profitability due to the effect of the smoking ban. Performance is expected to be above our downside scenario and EBITDA is expected to be about £258 million in financial year 2008. These expectations are supported by the announcement by Punch Taverns, the ultimate parent company of Punch Taverns Finance (Punch A), that its leased estate, of which Punch A is part, recorded a like-for-like sales decrease of 0.8% for the 20 weeks to Jan. 5, 2008. This is considered good, taking into account that results include the first winter under the smoking ban, and is well inside our base-case assumptions. As of Aug. 18, 2007, the EBITDA DSCR was 1.74x on a rolling two-quarter basis.
Spirit Issuer PLC
This transaction is backed by the cash flows of 1,324 managed and leased pubs.
Spirit Managed Pubs Ltd.
AAA; BBB+
Nov. 25, 2004
Roneil Thadani; Olli Rouhiainen
Rolling four-quarter EBITDA was £209.2 million for the period to Aug. 18, 2007, and the DSCR was 2.18x (default) and 1.84x (opflex). This is below restructuring run-rate EBITDA of £215.0 million, as per Punch Taverns' restructuring plans for the Spirit estate (approved by bondholders in June 2006). We will continue to closely monitor the transaction, with particular focus on how Spirit manages last year's poor summer trading and the smoking ban. We consider the securitization to be one of the more vulnerable estates that we rate. Since the last communicated investor report, Punch Taverns, the ultimate parent company of Spirit Issuer, has announced a 2.2% drop in sales in its managed pubs and a 0.8% drop in its leased pubs for the 20 weeks to Jan. 5, 2008. We expect that the Spirit securitization will have performed in line with the rest of the Punch Taverns portfolio. Performance remains above our stress scenarios for the first winter under the smoking ban, despite weaker-than-peers results from the managed pubs. The leased pubs performed in line with the average for securitized estates.
The Unique Pub Finance Co. PLC
This transaction is backed by the cash flows of 3,556 leased and tenanted pubs.
Unique Pubs Properties Ltd.
AAA; A; BBB+; BBB
March 7, 1999
Olli Rouhiainen; Roneil Thadani
Performance remains slightly lower than our base-case scenario due to the high number of pub disposals. That said, the estate is performing in a robust manner and there is covenant headroom following debt repayment from disposal proceeds. Cash flow available for debt service and repayment for the 52 weeks to December 2007 was about £223 million and Unique reported an FCF DSCR of 2.18x for the same period. Enterprise Inns PLC, the parent in the securitization, has reported broadly flat EBITDA in its tenanted pub operations for the 15 weeks to Jan. 12, 2008. The group confirmed that there has been no material change since then on March 28, 2008, supporting our view that Unique's portfolio of pubs should be relatively well placed to withstand pressure from the smoking ban. The transaction includes weaker covenants than those seen in more recent securitizations. This is mitigated by a required cash reserve of £65 million, but we consider an upgrade unlikely under the current structure.
*Ratings are as of March 31, 2008. SPUR—Standard & Poor's underlying rating.
Water
The U.K. water sector is one of the largest users of corporate securitizations given its inherent stability and protective regulatory environment.
Recent significant rating actions on water corporate securitizations include the following:
The upgrade of Dwr Cymru (see also "Rating actions"), which reflected Glas Cymru's sustained trend of deleveraging in line with its public commitment to target a 70% level of net debt to regulated asset value. This is enhanced by the company's ownership structure, which is unique among water companies and insulates it from shareholder pressures to gear up its balance sheet.
The affirmation of the 'BBB' underlying debt rating on U.K.-based South East Water (Finance) Ltd.'s £366 million guaranteed senior secured bonds. This followed the cashless merger of the business of the parent in the transaction, U.K.-based regulated water only utility South East Water Ltd., with that of its sister company Mid Kent Water Ltd.
In another development in the sector, Southern Water Services (Finance) Ltd. was sold for an enterprise value of £4.2 billion to a consortium led by a fund advised by JP Morgan Asset Management Infrastructure Investments Group (32%), Australia-based Challenger Infrastructure, and UBS. The disposal took place at Southern Water Capital Ltd., the ultimate holding company that sits outside the ringfence, and has not affected the companies within the ringfence.
Overall, the financial ratios of the water corporate securitizations retain adequate headroom over covenanted lock-up ratios, and we expect performance to remain stable.
Table 5
European Corporate Securitizations—Water
Primary participant[s]
Ratings*
Date of initial issuance
Analyst[s]
Anglian Water Services Financing PLC
This transaction involves the securitization of Anglian Water Group's regulated water and wastewater activities, which are structurally and legally ringfenced from the group's other activities.
Anglian Water Services Ltd. (AWS)
AAA; A-; BBB
July 24, 2002
Karin Erlander
The ratings continue to reflect a combination of the underlying credit quality of AWS' regulated water and wastewater business with various structural features designed to increase cash flow certainty for bondholders. Strengths are offset by the aggressive capital structure, with senior (class A and class B) net debt to regulated asset value at 82% on March 31, 2007. As for other U.K. water and wastewater companies, AWS' free operating cash flow is expected to be negative for the foreseeable future due to large capital investment needs. Although financial ratios are modest for the rating category—even for a water utility—they should be interpreted in light of the relatively low business risk and positive structural features.
Artesian Finance PLC
The structure is a water sector financing company established to facilitate the issuance of bonds on behalf of U.K. regulated water companies.
Several U.K. water and sewerage companies
AAA
June 26, 2002
Tania Tsoneva
The ratings in the transaction continue to reflect the unconditional guarantee of principal and interest by FSA Insurance Co. on all notes issued under the company's £750 million senior secured note program. Total issuance under the program stands at £473 million.
Artesian Finance II PLC
The structure is a water sector financing company established to facilitate the issuance of bonds on behalf of U.K. regulated water companies.
Several U.K. water and sewerage companies
AAA
May 2, 2003
Tania Tsoneva
The ratings reflect the unconditional guarantee of principal and interest by FSA on all notes issued under the company's £500 million senior secured note program. Total issuance under the program stands at £346 million.
Artesian Finance III PLC
The structure is a water sector financing company established to facilitate the issuance of bonds on behalf of U.K. regulated water companies.
South Staffordshire Water PLC (BBB+/Stable/A-2) is currently the only participant, but will be joined by several U.K. water and sewerage companies in the future
AAA
Dec. 14, 2005
Tania Tsoneva
The ratings reflect the unconditional guarantee of principal and interest by FSA on all notes issued under the company's £750 million senior secured note program. Total issuance under the program stands at £111.4 million.
Bakethin Finance PLC
This transaction involves the leveraging of receivables from the Environment Agency, a U.K. government agency, to the Kielder Water scheme for the management of river flows in Northumbrian Water's service area.
Northumbrian Water Ltd. (BBB+/Stable/--)
AAA/Stable
May 11, 2004
Tania Tsoneva
The £248 million issue is guaranteed by FSA. We consider the underlying credit quality of the issuance to be linked to that of Northumbrian Water through the existence of certain repurchasing events and through the latter's ownership of and operating interest in the Kielder Water scheme. The scheme is designed to augment river flows in the Tees, Tyne, and Wear rivers in England, but is relatively underused. Northumbrian Water receives revenues for the scheme under a contract with the U.K. Department for Environment, Food, and Rural Affairs.
Dwr Cymru (Financing) Ltd.
This transaction involves the financing of Dwr Cymru Cyfyngedig's regulated water and wastewater business in Wales.
Dwr Cymru Cyfyngedig (Welsh Water)
AAA; A (SPUR); BBB+
June 18, 2001
Tania Tsoneva
The ratings continue to reflect various structural features designed to enhance cash flow certainty for bondholders. They also reflect the underlying credit quality of Welsh Water, the regulated water and wastewater business owned by Glas Cymru Cyfyngedig. Rating strengths include a favorable ownership structure that insulates the company from shareholder pressure to maximize leverage.
Freshwater Finance PLC (first series)
This transaction is a repackaging of a corporate securitization bond issued by Anglian Water Services Financing PLC (AWS Financing).
Anglian Water Services Financing PLC
AAA
April 20, 2005
Sebastian Macliver
The collateral pool consists of one bond that the issuer purchased at closing. The notes were issued by AWS Financing in April 2005 and are scheduled to mature in 2035. The payment to the issuer from AWS Financing and the payments to the class A noteholders are subject to separate guarantees from Ambac. Performance is in line with expectations.
South East Water (Finance) Ltd. (SEWFL)
This transaction involves the securitization of South East Water Ltd.'s regulated water only business, the second-largest water only service in the U.K.
South East Water Ltd. (SEW)
AAA; BBB(SPUR); BBB
July 27, 2004
Béatrice de Taisne
The cashless merger between SEW and Mid Kent Water Ltd. (MKW) has been implemented through a scheme of transfer of substantially all MKW's assets and liabilities, including two secured loans, to SEW. The enlarged SEW will operate on a single license encompassing the former SEW and MKW monopoly areas. The underlying debt rating on SEWFL's bonds continues to reflect SEW's stable, regulated revenues, underpinned by a predominantly domestic and affluent customer base, and the positive features of the financial structure: a strong covenant package, a security pledge, strict limitations on business activities, and a requirement to maintain liquidity facilities to back up debt service and operations and maintenance payments. These strengths are offset by the risks entailed in an aggressive capital structure that limits financing flexibility, moderate debt protection measures, an ongoing need to raise debt to partially finance the capital expenditure program, tariff resets every five years, and concerns regarding security-of-supply issues.
Southern Water Services (Finance) Ltd.
This transaction involves the securitization of Southern Water Services Ltd.'s regulated water and wastewater activities, which are structurally and legally ringfenced from the equity holders.
Southern Water Services Ltd. (SWS)
AAA; A-(SPUR); BBB
July 23, 2003
Hugues de la Presle
The ratings remain underpinned by the highly predictable revenue streams from SWS' water and wastewater operations and the U.K.'s supportive and transparent regulatory water regime. The ratings also reflect the liquidity mandated within the financial structure; a strong covenant package to protect debtholders, including limitations on additional debt; a defined cash waterfall of payments giving senior debt priority; a minimum level of financial performance; restrictions on distributions; and limitations on business activities. These strengths are offset by an aggressive capital structure resulting in limited headroom relative to covenant requirements. The ratings assume that the company's financial profile will remain close to its financial covenants. SWS has an ongoing need to raise debt to finance capital expenditures as it will remain cash flow negative for the foreseeable future. In addition, the company has a substantial £1.9 billion capital program to complete during the current regulatory period. SWS also faces some operating issues: It was fined £20.3 million by the regulator for misreporting customer service statistics and must improve the performance of its core wastewater operations.
Sutton and East Surrey Water PLC
This transaction involves the securitization of Sutton and East Surrey Water PLC, a regulated U.K. water supply company that operates a monopoly in the south of England.
Sutton and East Surrey Water PLC (SESW; BBB+/Stable/--)
AAA; BBB+(SPUR)
March 5, 2001
Ana Nogales
The ratings reflect the low-risk nature of SESW's regulated and monopolistic water supply business. They also reflect a robust ringfenced structure, created by the presence of an insolvency-remote special-purpose entity (SPE) holding company, a strong debt covenant and security package, and the appointment of two independent directors at the SPE. These strengths are offset by a weak financial profile. In addition, the company has faced operational challenges as a result of the severe drought affecting its distribution area over the past two years.
Thames Water Utilities Cayman Finance Ltd. (TWUCF)
This transaction involves the securitization of Thames Water Utilities Ltd.'s regulated water and wastewater business in London and the Thames Valley region.
Thames Water Utilities Ltd. (TWUL)
BBB+
Sept. 5, 2007
Hugues de la Presle
The three sterling bonds (£200 million maturing in 2032, £175 million maturing in 2021, and £330 million maturing in 2028) issued by Thames Water Utilities Finance Ltd. (TWUF) are now within the corporate securitization structure. The only outstanding bond remaining outside the structure is a ¥4 billion bond maturing on March 25, 2008. We will withdraw the corporate credit rating on TWUL once this bond has matured, as that rating will not be meaningful for TWUL, TWUF, or TWUCF once all the debt is within the corporate securitization. This is because the securitization's financial structure has been established so that the different tranches of debt have different default characteristics.
*Ratings are as of March 31, 2008. SPUR—Standard & Poor's underlying rating.
Health care
Reflecting current conditions in the market, the past six months have seen no new activity in the rated health care corporate securitizations. Following several large acquisitions in the sector, 2007 was a year of significant redemption and refinancing activity. Debt issued by Craegmoor Funding (No. 2) Ltd. and UK Hospitals No. 1 was repaid, while the Theatre (Hospitals) No. 1 PLC and Theatre (Hospitals) No. 2 PLC transactions issued £660 million of refinancing-related rated debt. This issue followed the acquisition of General Healthcare Group (GHG) by a Netcare-led consortium, while the redemption of U.K. Hospitals No. 1 debt followed the sale of 25 U.K. hospitals by the BUPA Group.
Acquisition activity has continued, with both Netcare and BUPA expanding their businesses, but this has not as yet led to any new corporate securitizations. We expect ongoing consolidation in the sector and a renewed uptake of securitization activity when market conditions improve.
The major acute (mainly hospital-based) health care providers in the transactions we rate have performed strongly over the past year, partly reflecting stable relationships with their major revenue sources—private medical insurance (PMI) providers—that have arrangements to use specific hospital networks belonging to the major health care groups such as BUPA and GHG. Demand for private acute care looks set to remain strong despite significant recent investment in the National Health Service (NHS): According to the Association of British Insurers, PMI subscriptions even increased in 2006, probably fueled by the extensive media coverage of NHS hospital-acquired infections. Although increased NHS investment and the resulting fall in waiting times may have dampened demand for private self-pay in some areas, any negative effects on the independent acute sector have been more than compensated for by an increase in demand for private cosmetic surgery. Demand for cosmetic surgery may be more exposed to a downturn in the economy, however.
As part of its health care reforms, the U.K. government has encouraged the NHS to commission increasing health care from the independent sector. Independent providers generally receive lower margins for this work than for their private patient work, but NHS contracts can still be attractive given their high-volume nature and the spare private capacity available. Following the change of U.K. prime minister, however, a number of future NHS contracts have been scaled down. Nevertheless, we expect to see a certain amount of growth in NHS business across the independent sector over the next few years.
The care home sector remains attractive to investors, with demand likely to grow as an increasing share of the population becomes elderly. This will not necessarily lead to higher margins for all care home providers, however, as most providers are financed predominantly by local authorities, which face a tough funding environment over the next few years. Because increases in grant settlements will vary across local authorities, care home providers that are most dependent on revenues from local authorities with poorer funding settlements are likely to find their fee growth particularly constrained.
In contrast, care home providers that specialize in nursing rather than just residential care (such as Barchester Healthcare Group and BUPA) and that receive a large share of their funding from wealthy, self-pay private patients are likely to enjoy more buoyant revenues. That said, revenue from private patients could prove vulnerable to an economic downturn, particularly in relation to falling house prices.
Table 6
European Corporate Securitizations—Health Care
Primary participant[s]
Ratings*
Date of initial issuance
Analyst[s]
Epic (Barchester) PLC
The transaction is an opco/propco transaction where the notes are backed by a single loan to Barchester Holdco Ltd. and onlent to Bluehood Ltd., a member of the U.K.-based Barchester Healthcare Group, which is one of the largest care home providers in the U.K., with a high proportion of self-paying clients. The loan is secured on 160 properties owned or held on long leases.
Barchester Holdco Ltd.
AAA; AA; AA-; A
Nov. 30, 2006
Roneil Thadani; Hugo Foxwood
The transaction has performed in line with expectations to date. At December 2007, the interest coverage ratio (ICR) was 2.15x (1.96x covenant) and the DSCR was 1.95x (1.73x covenant). EBITDAR rent coverage at 1.55x is greater than the covenant of 1.35x and the opco/borrower total debt ratio of 10.76x is within the 13.00x covenant.
Talisman-2 (Priory) Finance PLC
This transaction is backed by the property assets of the Priory Group, a leading provider of a range of mental health care services in the U.K.
Priory Finance Property LLP
AAA; AA; A; BBB
Dec. 23, 2005
Roneil Thadani; Hugo Foxwood
EBITDAR growth in 2007 was slower than had been expected at closing, with new properties taking longer than projected to ramp up. The transaction remained covenant-compliant, however. For the first quarter of 2008 the ICR was 1.19x. The next ratchet in the interest coverage covenant occurs in September 2008, when it increases to 1.20x from 1.15x. The loan-to-value (LTV) ratio for the first quarter was 85.86% (92.50% required). Priory changed key management during 2007, including the CEO and CFO.
These transactions have identical structures but different debt amounts. Each transaction features 36 loans to 36 individual property companies in an aggregate principal amount of £1.65 billion. The properties are let to BMI Healthcare Ltd., part of General Healthcare Group (GHG).
36 individual property companies
AAA ; AA; A; BBB
May 11, 2007
Roneil Thadani; Liesl Saldanha
The Theatre 1 and 2 transactions followed on from the redemption of the previous transaction in 2006 after a Netcare-led consortium acquired GHG. The transaction has performed in line with expectations to date. The ICR at July 2007 was 2.12x. The rent coverage ratio is not formally tested until April 2008, after which it will be tested on a 12-month look-back basis.
U.K. Care No. 1 Ltd.
This transaction is backed by a portfolio of nursing home assets owned and operated by BUPA.
British United Provident Association Ltd.
AAA; A+
Feb. 17, 2000
Roneil Thadani; Hugo Foxwood
Performance remains in line with expectations. Rent coverage levels have continued to increase since closing, with net operating income growth outpacing that of rent. Rent is contractually determined and subject to upward only reviews. At closing, rent was £5.74 million per quarter, or £22.96 million on a rolling four-quarter basis. This increased to £9.01 million in the third quarter of 2007, or £33.15 million on a rolling four-quarter basis. The increase demonstrates a healthy compound annual growth rate of 5.8%.
*Ratings are as of March 31, 2008. EBITDAR—Earnings before interest, taxes, depreciation, amortization, and rent.
Social housing
The performance of the rated social housing bonds remains in line with expectations and there have been no rating actions since our last update. Performance is mainly dependent on the very stable and predictable rental cash flows from secured pools of social housing assets. Social housing rents are regulated and have generally been going up in line with an annual increase of RPI plus 0.5%. As most bonds are fixed rate, this has led to a rise in gross debt-service coverage that is reflected in the recent performance statistics.
However, expected maintenance and management costs can rise above inflation, which is why net interest coverage is perhaps a more important measure of the bonds' performance. To date, net interest coverage has remained in line with expectations. Amortization of principal tends to be back-ended, except for the Housing Association Funding PLC notes and the £100 million bond issued by Places for People Homes Ltd., on which amortization continues according to schedule.
Toward the end of 2007, the U.K. government announced a major change in relation to social housing policy. On October 15, the government announced that the social housing sector would be regulated by a new independent regulator called the Office for Tenants and Social Landlords (OFTASL). It also announced the creation of the Homes and Communities Agency, a body that will be responsible for the supply of social housing and distribution of the housing development grant. Both these organizations will operate from 2009, although no specific date is yet to be made public.
The planned replacement of the Housing Corporation in 2009 will therefore see its regulatory and investment activities split between two new bodies. Full details on the respective powers of these organizations have not been released, but we believe that the existing strong level of regulation is unlikely to weaken. We do not expect negative effects to our ratings on U.K. housing associations, or any of the bonds issued by these entities as a result of the shake-up.
These moves follow on from the government's decision in January 2007 to review the system of social housing regulation in the U.K. At that time, it announced that a new agency—Communities England—would be set up by 2009 to replace the Housing Corporation (the current social housing regulator in England), English Partnership (the regeneration agency in England), and certain sections of the Department for Local Government and Communities. With the October announcement, the regulatory and investment roles of the Housing Corporation will be separated from 2009, and Communities England has now been renamed the Homes and Communities Agency. We understand, however, that the two new bodies will work together to ensure that government support for the sector is not diminished.
The changes will be facilitated by the passing of the Housing and Regeneration Bill through parliament. Until then, the Housing Corporation will
