Charles-Henri Larreur (Paris) is currently a professor at HEC Paris. His past positions in academia include professorships at the Chinese University of Hong Kong, Sciences Po Paris, IPAG Paris, Paris II Pantheon Assas and the Catholic University of Paris. He is currently a Managing Director and Head of Asset Based Finance France & Benelux at Santander. Previously, he was the Managing Partner at Gamma Capital Ltd (Paris and Hong Kong) and the Director of Structured & Asset Finance at HSBC Bank Plc (Paris and London).

PREFACE

INTRODUCTION

A Brief History of Structured Finance (The Origins)

Defining Structured Finance (The Terms)

PART 1: LEVERAGED BUYOUT (LBO)

Chapter 1 What is an LBO?

1.1 The Main Features of an LBO

1.1.1 Definition

1.1.2 Debt Sizing

1.1.3 Various Types of LBOs

1.2 A Three-Step Leverage

1.2.1 Financial Leverage

1.2.2 Tax Leverage

1.2.2.1 Little to No Dividend Tax

1.2.2.2.Tax Groups and Interest Deductibility

1.2.2.3 Alternatively, the Merger or the Debt Push Down

1.2.3 Managerial Leverage

1.2.3.1 LBOs by Investment Firms

1.2.3.2 The Acquisition of a SME by an Individual Buyer

1.2.3.3 The Build-up

Case Study 1: The Harley-Davidson LBO (1981–1986)

Chapter 2 The Different Stakeholders

2.1 The Target Company

2.1.1 Stable and Recurring Cash Flow

2.1.2 Possibility of Improving Operating Processes

2.1.3 Growth Opportunities

2.1.3.1 Organic Growth

2.1.3.2 External Growth

2.1.4 Low Level of Net Long-term Debt

2.1.5 Low Working Capital Requirement

2.1.6 Some Assets can be Collateralized (ideally)

2.1.7 No Dirty Little Secrets

2.1.8 People Matter

2.1.8.1 A Top-Notch Management Team

2.1.8.2 Change of Culture

2.2 Buyers

2.2.1 Private Equity Firms

2.2.1.1 Private Equity Sponsors

2.2.1.2 The Origins of Leveraged Buyouts

2.2.1.3 LBO Firms vs. LBO Funds

2.2.1.4 Profit Sharing between LPs and LBO Firms

2.2.1.5 Fund’s Lifetime

2.2.1.6 Performance Targets

2.2.2 Individual Buyers

2.3 Lenders

2.3.1 Basic Concepts

2.3.2.1 Sizing

2.3.2.2 Debt Structure

2.3.2 Term Loans

2.3.2.1 How Does it Work?

2.3.2.2 Covenants

2.3.2.3 Events of Default

2.3.2.4 Cove-lite Structures

2.3.2.5 Banking Pools

2.3.2.6 Non-bank Investors

2.3.2.7 Other Credit Facilities

2.3.3 Subordinated Debt

2.3.3.1 Second Lien

2.3.3.2 Mezzanine Debt

2.3.3.3 High-yield Bonds

2.3.4 Unitranche Debt

2.3.4.1 What is it?

2.3.4.2 Bifurcated Unitranche

Case Study 2: Michael Milken and the Birth of the High Yield Bond Market

Case Study 3: Malcolm Glazer and the Manchester United LBO

Chapter 3 The LBO Process

3.1 The Sale Process

3.1.1 Preliminary Analysis

3.1.2 Valuation

3.1.2.1 Comparative Method

3.1.2.2 Intrinsic Method

3.1.2.3 Determining the Offer Price

3.1.3 Letter of Intent

3.1.4 Due Diligence

3.1.5 Structuring and Closing

3.1.6 After the Acquisition

3.1.6.1 Private Equity Firms

3.1.6.2 Individual Buyers

3.2 Exit Strategies

3.2.1 Initial Public Offering

3.2.2 Sale

3.2.2.1 To a Company

3.2.2.2 To Another Private Equity Firm

3.2.3 Dividend Recapitalization

3.2.3.1 How does it Work?

3.2.3.2 Constraints

3.3 LBO and Private Equity

3.3.1 Focus on Venture Capital and Growth Capital

3.3.1.1 Venture Capital

3.3.1.2 Venture Capital Firms

3.3.1.3 Several Rounds

3.3.1.4 History of Venture Capital

3.3.1.5 Growth Capital

3.3.1.6 Growth Capital vs. Venture Capital

3.3.2 LBO Compared with Venture Capital and Growth Capital

Case Study 4: Hilton Hotels LBO, the Most Profitable Private Equity Deal Ever

Summary Leveraged Buyouts: What have we Learnt?

PART 2: PROJECT FINANCE

Chapter 4 The ABC of Project Finance

4.1 Definition

4.1.1 The Purpose of Project Finance

4.1.2 Financing the Construction of Infrastructure with Non-recourse Debt

4.2 Why Choose a Project Finance Structure

4.2.1 Two Different Options to Finance Infrastructure Assets

4.2.1.1 Corporate Financing

4.2.1.2 Project Financing

4.2.2 Advantages of the Project Finance Option

4.2.2.1 Isolating Risks

4.2.2.2 Optimizing Leverage

4.2.2.3 Extending Debt Maturity

4.2.2.4 Ideal Solution for Consortiums

4.2.2.5 Ideal Solution for Financial Sponsors

4.2.2.6 Only Solution for Small or Medium Size Sponsors

4.3 Constraints of the Project Finance Structure

4.4 How to Choose Between Corporate and Project Financing

Case Study 5: The Construction of the Eiffel Tower

Chapter 5 The Main Parties to Project Financing

5.1 Different Types of Projects

5.1.1 Projects with Long-term Purchase Contracts

5.1.1.1 How Does it Work?

5.1.1.2 Financing a Project Benefiting from a Long-term Purchase Agreement

5.1.2 Projects with Traffic or Merchant Risk

5.1.2.1.Definition

5.1.2.2.A Higher Level of Risk than Projects Benefiting from Offtake Agreements

5.1.2.3 Subsidies

5.1.2.4 Projects Partly Exposed to Merchant Risk

5.1.3 Public-Private Partnerships (PPP)

5.1.3.1 Concessions: a Historical Approach

5.1.3.2 PPPs: from the United Kingdom to the Rest of the World

5.1.3.3 Financing PPPs

5.1.3.4 Legal Forms of PPPs

5.2 Sponsors

5.2.1 Industrial Sponsors

5.2.2 Financial Sponsors

5.2.2.1 Definition

5.2.2.2 A Growing Competition between Financial Sponsors

5.2.2.3 Financial and Industrial Sponsors Work Together

5.2.3 Greenfield and Brownfield investments

5.2.4 Stock Exchange Listing

5.2.4.1 Listing of Infrastructure Companies

5.2.4.2 Listing of Infrastructure Funds

5.2.4.3 Yieldcos

5.2.5 Infrastructure-like Assets

5.2.5.1 Definition

5.2.5.2 Financing of Infra-like Assets

5.3 Lenders

5.3.1 Banks

5.3.1.1 Leading Banks in Project Finance

5.3.1.2 What Types of Loans Do They Offer?

5.3.1.3 Junior Loans

5.3.2 Infrastructure Debt Funds

5.3.2.1 New Players in the Infrastructure Space

5.3.2.2 Regulatory Background

5.3.2.3 Who Are these Funds?

5.3.3 Project Bonds

5.3.4 Development Finance Institutions

5.3.4.1 Definition

5.3.4.2 Multilateral Development Banks

5.3.4.3 MDBs in Project Finance

5.3.4.4 Preferred Creditor Status

5.3.4.5 A/B Loans

5.3.5 Export Credit Agencies (ECA)

5.3.5.1 Definition

5.3.5.2 Rules Applicable to ECAs

5.3.5.3 Example

5.3.5.4 Advantages of ECAs

5.3.5.5 Structuring Options

5.4 The Role of Public Authorities

5.4.1 Framework

5.4.2 Public Tenders

Case Study 6: The Near Bankruptcy of Disneyland Paris

Chapter 6 Project Finance Structuring

6.1 Preliminary Analysis of the Project

6.1.1 Construction Risk

6.1.2 Resource Risk

6.1.3 Credit Risk

6.1.4 Market Risk

6.1.5 Rate Risk

6.1.6 Foreign Exchange Rate Risk

6.1.7 Operational Risk

6.1.8 Technological Risk

6.1.9 Political Risk

6.1.10 Environmental Risk

6.1.11 Force Majeure and Other Risks

6.1.11.1 Force Majeure

6.2.11.2 Other Risks

6.2 Project Finance Legal Structure

6.2.1 Establishment of the Special Purpose Vehicle (SPV)

6.2.1.1 Characteristics of the Project Company

6.2.1.2 Employees

6.2.2 Loan agreement

6.2.2.1 Main Features of a Project Finance Loan

6.2.2.2 Reserve Accounts

6.2.2.3 Debt Service Coverage Ratio (DSCR)

6.2.2.4 Loan Life Cover Ratio (LLCR)

6.2.2.5 Other Covenants

6.2.2.6 Events of Default

6.2.2.7 Junior Loan

6.2.3 The Security Package

6.2.3.1 Description of the Security Package

6.2.3.2 Analysis of the Security Package

6.2.4 Other Financial Documents

6.2.4.1 Intercreditor Agreement

6.2.4.2 VAT Facility

6.2.5 Project Documents

6.2.5.1 Construction (or EPC) Contract

6.2.5.2 Operation and Maintenance Contract

6.2.5.3 Offtake Agreements (and other Contracts through which an SPV Generates Revenues)

6.2.5.4 Lease Agreement

6.2.5.5 Agreement(s) with the Host Country

6.3 Financial Structure

6.3.1 The Financial Model

6.3.1.1 Building a Financial Model

6.3.1.2 Identifying Operating Cash Flow

6.3.1.2 Role of the Financial Advisor

6.3.2 Debt Sizing

6.3.2.1 How to Determine the Total Debt Amount

6.3.2.2 Debt Service Coverage Ratio (DSCR)

6.3.2.3 Is There an Ideal Debt-to-Equity Ratio?

6.3.2.4 Timing of a Sponsor’s Equity Investment

6.3.3 Waterfall

6.3.3.1 Debt Repayment and Dividend Distribution

6.3.3.2 Is There a Risk of Conflict of Interest?

Summary Project Finance: What have we learnt?

PART 3: ASSET FINANCE

Chapter 7 Definition of Asset Finance

7.1 The Scope of Asset Finance

7.1.1 What is an Asset?

7.1.2 Three Types of Structures

7.2 How to Finance Assets

7.2.1 Mortgage Loans

7.2.1.1 Definition

7.2.1.2 In Case of Default

7.2.1.3 Debt Sizing

7.2.1.4 Maturity

7.2.2 Finance Lease

7.2.2.1 Definition

7.2.2.2 Use in Asset Finance

7.2.2.3 Finance Lease Structure

7.2.2.4 Tax Lease

7.2.2.5 Tax Lease Industry

7.2.2.6 Tax Leases Today

7.2.2.7 Tonnage Tax

7.2.3 Operating Lease

7.2.3.1 Definition

7.2.3.2 Clients Need Flexibility

7.2.3.3 A Few Words on Lessors

7.2.3.4 Lessors’ Financing Strategies

7.2.3.5 JOLCOs

7.2.4 How the Three Options Compare to Each Other

Case Study 7: Richard Branson and the Beginnings of Virgin Atlantic

Chapter 8 The Stakeholders

8.1 Clients

8.1.1 Asset Users

8.1.1.1.Who are they?

8.1.1.2 The Case of the Airline Industry

8.1.1.3 A Long History of Defaults

8.1.2 Valuable and High-demand Assets

8.1.3 Traditional Financing Options

8.1.3.1 Mortgage Loans

8.1.3.2 Tax Leases

8.1.3.3 Other Corporate Financing Options

8.1.4 The Appeal of Operating Lease

8.1.4.1 Cash Flow

8.1.4.2 Residual Value risk

8.1.4.3 Flexibility

8.1.4.4 And Accounting?

8.2 Lessors

8.2.1 An Historical Approach

8.2.1.1 The Beginnings

8.2.1.2 The Cape Town Convention and the Globalization of Leasing

8.2.2 The Leasing Market Today

8.2.2.1 Leading Lessors

8.2.2.2 Their Strategies

8.2.2.3 Their Relevance

8.2.2.4 A fragmented Market

8.2.3 Dynamics at Work in the Aircraft Operating Leasing Market

8.2.3.1 A Business with High Entry Barriers

8.2.3.2 The Rise of Chinese Lessors

8.2.3.3 The Growing Interest of Hong Kong Investors

8.2.3.4 Japanese Lessors

8.2.3.5 Long-term Infrastructure Investors

8.2.3.6 Private Equity Firms

8.2.3.7 Sidecars

8.3 Lenders

8.3.1 Mortgage Loans

8.3.1.1 Structure

8.3.1.2 Mortgage Loans seen by Banks

8.3.1.3 Non-recourse Financing

8.3.1.4 Export Credit Agencies

8.3.1.5 Asset Finance vs. Project Finance

8.3.2 Unsecured Funding

8.3.2.1 Bonds

8.3.2.2 Bank Facilities

8.3.3 Other Structures

8.3.3.1 Securitization

8.3.3.2 JOLCOs

Case Study 8: The Rise and Fall of GPA, the first Giant Aircraft Leasing Company

Chapter 9 Behind the Scenes

9.1 Inside a Leasing Company

9.1.1 Choosing a Location

9.1.1.1 Ireland as a Global Hub for Aircraft Leasing

9.1.1.2 Other Geographies

9.1.2 Building a Portfolio

9.1.2.1 Credit Considerations

9.1.2.2 Assets

9.2 Legal Considerations

9.2.1 Rents and Maintenance Reserves

9.2.1.1.Aircraft Specifications and Configuration

9.2.1.2 Rents

9.2.1.3 Maintenance Reserves

9.2.1.4 Maintenance Reserves and Value of an Aircraft

9.2.2 Security Package

9.2.2.1 Rents and Supplemental Rents

9.2.2.2 Security Deposit

9.2.2.3 Other Elements of Comfort

9.2.3 End of the Transaction

9.2.3.1 End of the Lease without Events of Default

9.2.3.2 After the Lease

9.2.3.3 End of the Lease Following an Event of Default

9.2.3.4 Repossession of an Aircraft

9.2.4 Interaction with Lenders

9.2.4.1 Timing: When to Structure the Loan

9.2.4.2 Loan Structure

9.3 Dynamics of Leasing Markets

9.3.1 Aircraft

9.3.2 Shipping

9.3.3 Rail

9.3.3.1 Corporate Funding and Tax Lease Structures

9.3.3.2 Operating Leasing Market

 Summary Asset Finance: What have we Learnt?

PART 4: SECURITIZATION

Chapter 10 The Securitization Process

10.1 Transforming Illiquid Assets into Liquid Securities

10.1.1 Definition

10.1.2 Example

10.2 Tranching of Securities

10.2.1 Different Levels of Return and Risk

10.2.1.1 Different Tranches

10.2.1.2 Waterfall

10.2.1.3 Risk-based Approach

10.2.1.4 Comparison with other Structured Finance Transactions

10.2.2 Rating of the Various Tranches

10.2.2.1 Principle

10.2.2.2 Rating Upgrades and Rating Downgrades

10.2.3 Different Products

10.2.3.1 Residential Mortgage-Backed Securities (RMBS)

10.2.3.2 Commercial Mortgage-Backed Securities (CMBS)

10.2.3.3 CLOs and CDOs

10.2.3.4 CDO-squared (CDO2)

10.2.3.5 Other ABS Types

Case Study 9: The Securitization of David Bowie’s Intellectual Property Rights

Case Study 10: What is a Covered Bond?

Chapter 11 The Different Stakeholders

11.1 Borrowers

11.1.1 Their Role

11.1.2 Their Interest in the Transaction

11.2 The Originator

11.2.1 The Role of the Originator

11.2.2 The Interest of Securitization for the Originator

11.2.2.1 Reason 1: Liquidity Requirement

11.2.2.2 Reason 2: Balance Sheet Optimization

11.2.2.3 Reason 3: Risk Management

11.3 Around the SPV: The Transaction’s Life

11.3.1 The Special Purpose Vehicle (SPV) or Issuer

11.3.2 The Arranger

11.3.3 Rating Agencies

11.3.4 The Trustee

11.3.5 The Servicer

11.3.6 The Law Firm

11.4 The Investors

11.4.1 Their Interest

11.4.1.1 Diversification

11.4.1.2 Extra Yield

11.4.1.3 Liquidity Purposes

11.4.2 The Specific Case of Originators who also Act as Investors

11.4.2.1 Regulatory Capital Trades

11.4.2.2 Investors

11.4.2.3 Synthetic Transactions

Case Study 11: The Subprime Crisis

Case Study 12: Michael Burry’s Big Short

Chapter 12 Structuring a Securitization

12.1 Composition of the Collateral

12.1.1 Granularity: Pooling Together a Large Number of Assets

12.1.1.1 Number of Assets

12.1.1.2 Size of Assets

12.1.1.3 Granularity and Statistical Approach

12.1.2 Similarity: Pooling Together the Same Type of Assets

12.1.3 Diversification: Pooling Together Uncorrelated Assets

12.1.3.1 Definition

12.1.3.2 Idiosyncratic and Systemic Risks

12.2 Managed Transactions

12.2.1 Static and Managed Transactions

12.2.1.1 Static (or Balance Sheet) Transactions

12.2.1.2 Managed (or Arbitrage) Transactions

12.2.1.3 The Collateral Manager

12.2.1.4 The Investment Guidelines

12.2.1.4.1 Eligibility Option

12.2.1.4.2 Portfolio Profile Test

12.2.1.4.3 Collateral Quality Tests

12.2.1.5 Shift from a Refinancing to a Financing Model

12.2.1.6 Could We Say that CLOs are Mini-Banks?

12.2.1.7 Remuneration of the Collateral Manager

12.2.2 The Three Phases of a Managed Transaction

12.2.2.1 Ramp-up Period

12.2.2.1.1 Warehouse Period (pre-pricing)

12.2.2.1.2 Warehouse Period (post-pricing and pre-closing)

12.2.2.1.3 Post-closing Phase

12.2.2.2 Reinvestment Period

12.2.2.3 Post Reinvestment Period

12.3 Additional Structuring Considerations

12.3.1 Coverage Tests

12.3.1.1 Overcollateralization Test

12.3.1.2 Interest Coverage Test

12.3.1.3 Importance of Tests in the Rating of Securities

12.3.2 Other Specific Features of the Documentation

12.3.2.1 Call Option

12.3.2.2 Turbo Tranche

12.3.2.3 Fixed Rate Tranches

12.3.3 Other Types of Securitization

12.3.3.1 Student Loans ABS (or SLABS)

12.3.3.2 Aircraft ABS

12.3.3.3 Auto ABS

12.3.3.4 Credit Card ABS

Case Study 13: Whole Business Securitization

Summary Securitization: What have we Learnt?

CONCLUSION

Structured Finance: What have we Learnt? (The Wrap-up)

How Various Types of Structured Finance Compare to Each Other (The Summary)

What is the Future for Structured Finance? (Some Predictions)

APPENDIX A HOW BANKS SET INTEREST RATES

APPENDIX B SYNDICATION AND CLUB DEALS

APPENDIX C CREDIT DERIVATIVES

Index of companies listed in the book

Index of personalities (real of fictional) mentioned in the book

Bibliography

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