In this seven part series, Barnabas Finnigan and Nick Ward dissect special purpose vehicles and bankruptcy-remote orphan structures of the type used in the US CLO market. Together they explore how SPVs are formed, how they work, who (or what) owns them, and the various measures taken to enhance marketability and mitigate transactional risks. Whether you are a seasoned finance professional or just dipping your toes into structured finance, this series offers a deep dive into the architecture behind some of the most resilient financing structures in the market.
Part 1: What are bankruptcy remote structures and how and why are they used?
The fundamental point of utilising an orphan SPV structure in a financing transaction is to insulate the transaction in question from certain risks (which are not strictly related to the performance of the collateral assets underlying the deal).
More particularly, as the name suggests, the purpose of a "bankruptcy remote" structure is to insulate the underlying assets from the risk of being pulled into bankruptcy proceedings should something happen to one or more of the parties in a transaction.
The primary goal is to create a legal and operational separation between the assets being financed and the potential financial troubles of the entity that originated or sold those assets. This means that participants in the transaction can focus their credit and risk analysis on the relevant assets themselves and need not conduct time consuming due diligence on the operations and history of the obligor or parties connected with it.
Most structured finance or asset-backed transactions including CLOs and CFOs are conceived in this way and have been the subject of extensive analysis by, amongst others, the credit-rating agencies, who over the years have provided extensive guidance as to how one attains the coveted state of "bankruptcy remoteness". Tick every box (non-petition covenants, independent directors and limited-recourse language thick enough to stop a cavalry charge) and the transaction should win the coveted rating agency seal of approval, enhancing investor confidence in the transaction, making the deal more marketable (e.g. by lowering regulatory capital requirements) and allowing for tighter pricing.
In the next installment of this weekly series we will examine more closely the definition of a special purpose vehicle or "SPV" in the context of orphan structures.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
