08/06/2010

Issuers Warn of Reg AB-Induced Withdrawal

A clause in the SEC's proposed overhaul of Regulation AB is suddenly causing alarm among asset-backed bond issuers, who say the measure could kill the appeal of shelf entities.

The main cause for concern: For an issuer to conduct a shelf offering, a top executive would have to sign statements essentially assuring bondholders that payments will be made in full and on time. Bank of America, J.P. Morgan, Wells Fargo and other issuers have submitted comments to the SEC strongly opposing the requirement.

"We are concerned that the language of this mandated certificate would essentially require the depositor's [chief executive] to act as a guarantor of the principal payments on the ABS," Wells said in a statement filed on the SEC's Aug. 2 deadline for public comment. "No single person could predict all of the events that may occur that could impact the performance of the underlying collateral."

Indeed, market players said the proposal could seriously undermine the proposed Reg AB amendments, which are designed to increase transparency among securitizations. The thinking is that if forced to certify the performance of their SEC-registered deals, many issuers would opt for private placements instead.

Others might set up new vehicles for each of their transactions, rather than drawing on pre-registered shelves. But that would be a costly and time-consuming process that ultimately could diminish the flow of public offerings.

Legal experts say there's no precedent for the SEC's proposal, as it would mark the first time the regulator has held companies or their executives liable specifically for predicting the performance of securities. Some issuers are willing to take a lesser step by certifying the accuracy of prospectuses, as chief executives do for financial statements under the Sarbanes-Oxley Act. But the SEC is going too far, they argue, in effectively seeking a guarantee of bond payments.

"A lot of issuers have said they cannot sign this as it is proposed," said Ed Gainor, a partner at law firm Bingham McCutchen.

Under the SEC's proposal, the chief executive of the securitization vehicle would have to sign a statement saying that "to his or her knowledge, the assets have the characteristics that provide a reasonable basis to believe they will produce . . . cash flows at times and in amounts necessary to service payments on the securities as described in the prospectus."

Critics fear the language could open the door for investors to sue companies or individual executives if their bonds underperform. "It would create a new inappropriate standard," said Tom Deutsch, executive director of the American Securitization Forum.

With the public comment period now closed, the SEC is expected to finalize its Reg AB revisions by the end of this year and put them into effect on Jan. 1, 2012. The SEC's plan represents the most sweeping overhaul of the rules since they originally took effect in 2006, setting a range of standards for securitizations.

Under the current rules, the main requirement for a shelf registration is obtaining an investment-grade rating from a nationally recognized statistical ratings organization. The proposed overhaul replaces that standard with four main requirements, including the certification by a top executive. The other three are: that issuers retain some risk in their deals, enlist a third party to verify statements made in deal documents, and file ongoing reports with the SEC.

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