Canada: New Sources Of Liquidity In A Tough Market - May 2015

Funding requirements for projects and infrastructure, oil and gas, power and electricity, renewables, commercial real estate development, automotive, aviation and general corporate and commercial, coupled with the financial regulatory changes resulting from the global credit crisis have resulted in traditional and non-traditional borrowers searching for alternative capital structures.

The Global banking crisis in 2008 shook the foundations of the global banking community. Moreover it had a significant impact on almost every individual and entity that deals in any way with financial institutions. The result across the world has been a spider-web of laws, rules, regulations and accords pertaining to financial institutions in a manner that the world has scarcely seen before. One of the largest and most fundamental of those changes has been Basel III which is the new set of banking regulations agreed upon by the Basel Committee on Banking Supervision which has been, and is currently being, in part, implemented by national regulators across the world.

Basel III is a comprehensive set of capital and liquidity reforms to be implemented in an agreed phase-in period in order to provide greater stability, improved risk management and governance and provide more transparency in disclosure with respect to banks and other deposit taking institutions. It is important however to recognize that Basel III has, and will continue to have, a pervasive impact on all sectors and parties that deal with deposit taking institutions.

Notwithstanding the stabilization being brought to the International banking sector, the increased cost of compliance in the Global banking sector will have significant ramifications on a wide number of sectors including projects and infrastructure, oil and gas, power and electricity, renewables, commercial real estate development, automotive, aviation and general corporate and commercial. Already, the new capital, liquidity, and leverage standards are causing financial institutions to look at their origination and distribution models to optimize their capital structures to ascertain how they want to focus their resources and product lines.

To quote Wayne Gretzky, "a good player plays where the puck is, while a great player plays where the puck is going to be". In other words, where are your key team-mates going to be, not where they are. The Great One's statement is not only applicable to that great Canadian pastime, hockey, but also applicable to the business and finance community. Great companies and institutions alike are anticipating where the market is going based on the paradigm shift due to the financial regulatory changes and already asking themselves how their capital structure will look now, in a year, in five years and in ten years. The result is that many are recognizing the need to assess their corporate and project financing needs through a different lens. Many borrowers will find it useful to take the opportunity to look at Alternative Capital as an important source of financing.

The market has seen a rise in alternative capital structures and is expected to continue to see a rise in these structures in three respects.

Firstly, an increase in the volume of debt capital markets and specialist debt capital markets products being issued in North America and in Europe. According to Fitch, of all corporate debt in the U.S., approximately 70% is funded through the debt capital markets and specialist debt capital markets and up to 80-85% of the U.S. corporate debt for American large cap companies is funded through the debt capital markets and specialist debt capital markets. It is widely expected that given the above regulatory changes and the resultant de-leveraging by deposit taking institutions, Europe and Canada will follow the American model.

Secondly, the types of debt capital markets and specialist debt capital markets products being offered is expected to metamorphosize somewhat. Whilst we are seeing an increase in the number of straight debt capital markets products, we are also seeing a larger number of bespoke, specialist debt capital markets products being offered, especially in the U.S. and in Europe. The market has been seeing the larger number of specialised debt capital markets products in the form of bespoke funding platform products, convertible products, contingent convertible products, high yield products, credit-linked notes, asset-backed securities and asset-backed commercial paper.

Thirdly, there is a significant uptake in debt capital markets and specialist debt capital markets products being used in a broader spectrum of the market with companies who historically may have relied upon traditional lending facilities from deposit taking institutions. For example, in the infrastructure and renewable energy sectors, project bonds have already become a prevalent form of alternative financing. This is unsurprising as long term funding of project in asset based finance makes these sectors particularly vulnerable to the new Basel III liquidity requirements and therefore a prime contender for funding through the debt capital markets. It is estimated that the project bond market will grow from as much as 10 to possibly 20 times its current size by the end of the decade. Additionally, due to additional intervening factors such as exceedingly low oil & gas prices, we are seeing industries that traditionally don't use debt to finance themselves, looking at alternative capital structures including a wide variety of debt capital markets and specialist debt capital markets products. On December 10, 2014 KKR Co-Founder and Co-Chairman Henry Kravis, speaking at a conference, described the drop in oil prices as "a real opportunity". "There's a need for alternative capital right now," Craig Farr, KKR's head of credit and capital markets, said in an interview at the firm's New York headquarters.

However, whilst this expansion of the debt markets presents new opportunities, it also exposes borrowers to a palette of complex and often unknown alternative debt capital markets and specialist debt capital markets products. Finding the right financing strategies and structures that will fit the unique business needs of a borrower in areas as diverse as energy, projects, infrastructure, commercial real estate and the renewable energy sector, among others, will require creativity and strategic planning.

Having business-minded counsel with specialist expertise in global debt capital markets and specialist debt capital markets is crucial if corporates are to effectively take advantage of these new possibilities. At BLG, as one of the largest unified Debt Capital Markets Groups with over 70 lawyers practicing Canadian, UK and U.S. law, we help our clients find the products that are right for them and ensure that they are properly tailored to their particular commercial needs. In our complex world, clients are expecting a firm to think as uniquely and unconventionally as the financial products available to them, and that is exactly the kind of service BLG and more specifically the Debt Capital Markets Group, prides itself on delivering every time.

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