Structured Financing

FRAMINGHAM (07/17/2000) - "Joe" wants to buy the equipment needed to become an Internet service provider. He has customers signed up and knows he'll have a predictable revenue stream. But Joe has no credit history and no track record.

In the event that he can't get a business loan or venture capital, there's another financing option that could work for Joe: structured financing, which is a way of borrowing money against an asset or a projected asset without consideration of the creditworthiness of the borrower.

"If you had a fairly stable stream of revenues coming in once you built out the infrastructure, that's a very likely candidate for structured financing," says Todd Eyler, an analyst at Cambridge, Mass.-based Forrester Research Inc.

For example, a good candidate for structured financing, he says, is a company or government agency that's building a bridge - an asset with a lasting and fixed value. If anything happened to the borrower, the bridge would still be there.

This kind of financing is ideal for a start-up company that needs a lot of capital to get going but doesn't have a good credit history, Eyler says.

Structured financing isn't intended for small-scale projects: The average size of a structured financing deal is $25 million, and it can top $300 million or more, according to Kevin Walsh, managing director of the Structured Finance Group at General Electric Capital Corp. in Stamford, Conn.

"If I have to buy equipment or machinery, an efficient way to finance that would be through structured finance," Eyler says. An existing company would be more likely to use structured financing to smooth out its cash flow, he adds.

For example, a movie studio that hires Mel Gibson to star in a film has a huge up-front expense - namely, his salary. But there's also an almost guaranteed revenue stream from theater tickets, foreign distribution, video sales and television rights.

Eyler warns that most technology investments don't readily lend themselves to structured financing because they tend to depreciate too quickly. Plus, the revenue stream for many information technology projects, including e-commerce, is too uncertain, he says.

"Purely lending against IT infrastructure itself - that's a recipe for disaster," Eyler says. "If I were a bank, I wouldn't focus a lot of my balance sheet on that."

Like Rent-to-Own

Ironically, one of the very first instances of asset-backed borrowing was when Sperry Rand Corp., now part of Blue Bell, Pa.-based Unisys Corp., used structured financing for its computer equipment in the mid-1980s, according to David Warren, an analyst at New York-based Morgan Stanley Dean Witter & Co.

Equipment leasing is a form of structured financing that's similar to the "rent-to-own" financing model used by some furniture stores. In this instance, the finance firm buys the equipment and leases it to the company that needs it.

GE's Structured Finance Group does a lot of this, according to Walsh.

"We are the tax and legal owners, and the ownership would revert back to [the user of the facility] at the end of the lease agreement," Walsh says.

Why would a company adopt this type of structured financing? One reason is the tax advantages, Walsh says.

For example, if a company has an asset that represents a tax credit, the credit is unrealized if the company is losing money. By transferring the asset to a firm that can take advantage of the credit, everyone comes out ahead - except that Uncle Sam has to give the credit earlier than otherwise might have been true.

Another reason to lease equipment instead of owning it outright is to make the company look more attractive to Wall Street. Although equipment and facility leases must be mentioned on corporate financial statements - usually in footnotes - they wouldn't show up in things like leverage ratios, which is the amount of debt vs. equity, according to Eyler.

"The bottom line is that companies are trying to optimize their capital structure," Walsh says. "Depending on where it is in its growth curve, [the company] may need more equity or more debt."

Another type of structured financing involves equity, or partial ownership of a company.

For example, Walsh says, his group would lean toward taking an equity investment in a telecommunications company that wants to expand. Why? Because a company may want to have less debt and more equity and because GE Capital likes to invest in growing companies. "We want to grow with the company as it grows," Walsh says.

Say that a telecommunications company secures a license for a new region and needs to build its infrastructure, he says.

Usually, Walsh will deal with a company's CEO and chief financial officer, and a chief technology officer is integrally involved as well, he says.

"We have on our staff a whole cadre of engineers and so forth that help us assess projects like that and help us assess the risks and the valuations," he says. "They would be talking directly to the CTO to discuss these issues."

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