An accounting change, that seeks to alter the way SPEs or off-balance sheet entities are treated, is making the entities run for their life. Corporate users, banks and financial market players are busy attempting to understand the potential impact.
Circa,
2003. CFOs and finance executives are having sleepless
nights over the prospect of having to consolidate all
the financing that they so far did, by means of off-balance
sheet entities and the resulting ramifications that
it might bring. Market players in leasing, asset-backed
markets, bankers et al., are all worried whether
their business will cease to exist in future.
The
threat to off-balance sheet financing mechanisms, once
venerable products of financial engineering, and the
markets that grew around them, range from possibility
of extinction to large scale annihilation. Enron's abuse
of SPEs (special purpose entities) and its subsequent
collapse have forced investors to hate companies that
use complex financing mechanisms. If investor reaction
in the case of Krispy Kreme Doughnuts, Inc. is any indication,
it looks like the market is dictating corporate financing
strategies through share price. When Krispy Kreme considered
using an SPE, its share price trembled. Investor concerns
forced the company to abandon the idea. Cisco Systems
too, decided to abandon its use of synthetic leases
in the wake of investor fears, long before FASB (Financial
Accounting Standards Board) brought in FIN 46.
Off-balance
sheet financing mechanism takes many forms. Broadly,
they fall under two categories. Those that involve the
use of another entity and those that don't. The mechanisms
of the former category or off-balance sheet entities
are structured as separate legal entities that can take
any form like publicly traded companies, corporations,
partnerships, trusts or joint ventures. Such entities
were floated for various purposes, from leasing to securitization
of financial assets. These mechanisms offered their
corporate parents, best of both worlds. Lower cost of
financing, improved liquidity apart, they gave freedom
to the parent from associated debt burden.
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