Securitization in Ukraine: Legal Aspects
By Michael Kharenko and Nazar Chernyavsky
Sayenko Kharenko
Until 2007 securitization
in Ukraine was
much spoken about,
but hardly anyone could definitely
name its benefits or disadvantages
for Ukrainian entities.
At the beginning of last year
Ukraine saw its first true sale
cross-border securitization when PrivatBank securitised
a part of its residential mortgage loan portfolio. While the
size of the transaction was not that big (USD 180 million),
it has become an important milestone for the Ukrainian
market as its players could finally shift from talks to deals.
In basic terms, securitization is the process of converting
profit-generating assets into negotiable securities, which allows
the owner of such assets to remove them from its books
and use the proceeds for its future activities. Securitization is
a very popular product among banks, since they may sell part
of their assets and continue lending without additional capital
injections. At the same time, it is not only loans that may
be securitised. In those countries where securitization has already
become a popular financing instrument, various entities
(including states and municipalities) have been securitising all
kinds of assets starting from trade receivables and ending with
parking fees and utilities payments.
Out of the entire range of structured products the existing
legal framework in Ukraine covers so far only the issue of mortgage
bonds (similar to covered bonds popular in Germany and
CEE countries). Even though this instrument was originally intended
to be mainly used by the newly created State Mortgage
Institution, a Ukrainian commercial bank (UkrGasBank) was
the first to issue this type of securities in Ukraine. However, because
of the limited investor base in Ukraine this instrument did
not prove to be popular among larger Ukrainian banks.
At the same time, cross-border securitization and securitization
of non-mortgage products remain unregulated in
Ukraine. Therefore, structuring of such transactions is quite
complicated and involves profound analysis of various issues
not clearly resolved under Ukrainian law. Moreover, the owner
of assets (originator) ought to start preparing for securitization
well in advance in order to structure the creation of the assets
properly to avoid unnecessary costs at later stages. For example,
in a mortgage or car loan securitization, there are certain
requirements as to the form and contents of the underlying loan
and pledge/mortgage agreements that must be met in order to
make the transaction possible and ensure the highest rating.
One of the primary aims of any securitization is to achieve
the “true sale” effect, i.e. to write off the securitised assets from
the books of the originator. As noted above, a true sale is especially
important for companies constrained by capital adequacy
and liquidity ratios. Therefore, “synthetic” securitization (providing
for the pledge of assets in favour of the entity that issues
securities) is unlikely to be of much interest to Ukrainian originators
in the near future. Furthermore, Ukrainian law does not
provide for the segregation of assets in bankruptcy except for
structured mortgage pool that can be created only with mortgages.
Since Ukrainian legislation does not yet contain a straightforward
mechanism for the issue of securities by Ukrainian
companies abroad, all feasible structures for cross-border true
sale securitization in Ukraine involve the use of a foreign SPV
acting as issuer of securities (notes) in international capital
markets. Depending on the type of assets to be securitised and
certain other considerations, such structures may also include
a Ukrainian SPV that would purchase the assets in Ukraine. A
typical structure that could be used for cross-border securitization
of loans in Ukraine would look as showed in Figure 1.
When structuring securitization, a number of additional issues
need to be considered. Such issues include procedure of
assignment, currency control limitations, notarisation and registration
requirements, industry specific limitations (if origination
of assets belongs to the regulated type of activities), taxation
and bankruptcy rules, etc.
The sale of claims itself may be structured either as a regular
sale or as a factoring transaction. In the latter case, the purchaser
(factor) needs to be a financial institution. There is no clear indication in legislation whether the factor should be a Ukrainian
financial institution, and thus it can be argued that foreign
financial institutions may also benefit from the provisions of
the Ukrainian law applicable to factoring (i.e. ineffectiveness of
prohibition on the transfer of claims and special taxation rules).
In the event of the regular sale of claims there are no statutory
limitations on their transfer (apart from “personal” claims which
should not include loan claims), but the contractual limitations,
if any, would apply. Since most loans in Ukraine are secured, the
transfer of collateral rights will also need to be addressed. Consequently,
the transfer of collateral rights will need to be reflected in
the respective encumbrance (mortgage) register.
The proper structuring and description of the sale is also
important for rating agencies. When assigning a rating to the issuer
of securities, the validity of the transfer and remoteness of
the sold assets from the originator’s liquidation estate will be of
paramount concern to them. As a rule, the rating of the issuer
cannot exceed the sovereign ceiling of the originator’s country,
though certain credit enhancement features may be employed
to pierce it. Therefore, the opinion of legal counsel on the viability
of the selected structure would have considerable impact
on the rating and marketability of the notes.
Another important issue is the Ukrainian currency control
rules which heavily regulate the ability to purchase foreign currency
and transfer it abroad from Ukraine. Even though there is
no special securitization exemption in the laws of Ukraine, revenues
generated by securitised assets can be transferred abroad
without an individual licence from the National Bank of Ukraine
on the basis of an exemption provided for the repatriation of investment
proceeds. Nevertheless, the mechanism for collecting
payments, converting them to foreign currency (if applicable)
and transferring them abroad, has to be carefully structured to
comply with any applicable currency control rules.
In the event of securitization of loan assets, it is usually the
originator who continues to collect payments as servicer. In addition,
arrangements need to be made for a back-up servicer
who would substitute the originator should it become no longer
able to collect such payments. Rating agencies would usually be
interested if such a back-up servicer monitors loan payments
on a regular basis and is able to substitute the originator within
a couple of days (hot backup), though slower transitions (cool
backup) are also accepted. In the event of securitising any assets
other than loans, the parties would need to appoint from
the outset as servicer a bank or financial institution holding a
general foreign currency licence.
It should be noted that part of the revenues generated by the
assets will have to return to the originator (otherwise it would
have been a far from cheap source of capital for Ukrainian
banks). This is usually achieved through the payment of fees for
performing duties of the servicer and a bullet payment made at
the end of the transaction, each depending on the behaviour of
the loan portfolio (e.g. rate of early repayments and defaults).
In order to comply with Ukrainian currency control rules, the
latter payment can be structured in different ways, including
through payments under a subordinated loan or junior class
notes.
In view of the above, each individual case needs to be considered
separately as some other less evident issues may arise
which are not addressed here due to the general scope of this
article. Such analysis would usually require joint effort on part
of the originator itself, legal and tax advisers, lead managers and
rating agencies, as well as some comforting indications from the
regulator.
PrivatBank RMBS transaction demonstrated that securitization
is a complex but still beneficial process for Ukrainian
financial institutions. It has contributed greatly to the development
of structured products in Ukraine as other banks are using
this experience to bring their own transactions to the market.
Hopefully, such increased attention to this new instrument of
financing on part of Ukrainian banks (and, perhaps, other entities
in the near future as well) would encourage the regulator to
set more specific and transparent rules for securitization.
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