DCR Comments on 1998 Automobile Lease Transactions
8 February 1999
DCR Comments on 1998 Automobile Lease Transactions
NEW YORK, Feb. 5 -- Duff & Phelps Credit Rating Co. (DCR) saw
an increase in the volume of private securitizations backed by leases on
automobiles and light trucks during 1998. DCR rated four transactions with a
total dollar volume of approximately $713 million.
The automobile finance industry for new vehicles is one of the largest
consumer finance markets in the United States. In November 1998, the Federal
Reserve Board estimated the value of this market at more than $440 billion in
terms of outstanding automobile credit. The U.S. new car leasing market
finances well over $100 billion of leases annually. The leasing portion of
the market has experienced increases in volume due to the lower initial cost
and monthly payments offered by leases and an increasing consumer interest in
the option of leasing. Currently, more than two-thirds of luxury car sales
are financed via a lease, and recently there has been increased interest in
the leasing of late-model used cars.
In a typical automobile lease, the consumer establishes a vehicle purchase
price with the dealer, but ultimately it is the leasing company that
'purchases' the vehicle. Though the dealer may work out the terms of a lease
agreement with the consumer, once this agreement is signed the consumer's
relationship is with the leasing company. Lease terms normally range from 36
to 60 months in length, and require the lessee to make monthly payments, keep
insurance, pay taxes and fees, and maintain the vehicle to standards set in
the lease. Consumers will typically be asked to enter into one of two types
of leases. In a closed-end lease, after returning the vehicle and paying
applicable wear-and-tear and mileage charges, a consumer can 'walk away' from
the vehicle. In an open-end lease, in addition to normal fees, the consumer
is responsible for paying any difference between the vehicle's pre-established
lease-end residual value and its actual market value at the end of the lease.
Of the four transactions DCR evaluated in 1998 all were primarily
collateralized by closed-end leases to prime borrowers. However, DCR did
witness transactions structured using new and innovative features.
The largest transaction rated by DCR was a $419 million program sponsored
by Franklin Equity Leasing Co. (FELCO), a wholly owned subsidiary of Copelco
Financial Services Group Inc. FELCO's previous securitizations rated by DCR
performed extremely well with negligible levels of default. In this
second-quarter deal, notes were issued through a titling trust, FELCO Title
Trust Co., with portfolio underwriting and servicing responsibilities
contracted out to FELCO. The structure also included a 12-month revolving
period, during which all received principal will be reinvested in new leases
(within specific) guidelines. During this revolving period noteholders will
only receive scheduled interest payments.
Provident Bank came to market with leveraged lease transactions in both
the third and fourth quarters of 1998. The two transactions combined
accounted for nearly $280 million in issuance. Provident is subject to an
Alternative Minimum Tax (AMT) with the I.R.S. that prohibits it from taking
advantage of tax deductions for depreciation on the auto leases. The trust is
structured as such to allow Provident to sell the depreciation tax benefits to
an equity investor who can use these deductions to offset gains from other
revenue sources. In order to maximize the tax benefits of this arrangement,
the transaction needed to extend beyond five years. This was complicated by
the fact that lease terms on autos normally do not extend for more than 60
months. Provident overcame this obstacle by adding a revolving-type feature
to this transaction. The eight-year revolving feature includes a series of
optional Like-Kind-Exchanges where new auto leases are entered into by
the trust as older leases mature, prepay, or default.
DCR's outlook for the auto lease market is positive. The coming year
should bring with it a steady increase in the total volume and number of
transactions completed. DCR anticipates that approximately five to 10 private
144A deals will close during 1999. In addition to sponsors from 1998, DCR
expects to see issuance from the captive financing subsidiaries of major
automotive manufactures, other independent finance companies, and possibly
large commercial banks.