Ford upgrade triggers ABS-to-corporate debt conversion

NEW YORK, May 25 (IFR) - Ford is making history by launching the process to switch the capital market's first ABS-to-high-grade convertible bond to corporate debt from securitized form. The conversion of the deal, issued in 2011, was triggered this week by Moody's upgrade of Ford's corporate rating to investment-grade.

The move followed a similar recent upgrade by Fitch. The mandatory exchange for holders of Ford's US$2.5bn in "FUEL" auto ABS notes into straight debt is under way, now that two out of three rating agencies have raised the company back into high-grade territory.

FUEL stands for Ford Upgrade Exchange Linked notes. The company issued US$1.5bn of the innovative hybrid product in April 2011, and followed it up with a second US$1bn offering in June 2011.

The mandatory exchange will occur within ten business days of the Moody's upgrade, which means all the debt will be converted by June 6. The exchange is transacted through the Depository Trust & Clearing Corporation, and the Ford unsecured debt will have the same interest rate and maturity date as the original ABS. It will be issued under Rule 144a, with registration rights.

The exchange is automatic, with no action or election needed on the part of the investor. The new unsecured debt will have the same terms and same indenture as other outstanding Ford corporate debt; one CUSIP will be exchanged for the other.

The vast majority of purchasers of the original FUEL ABS debt were investment-grade corporate buyers. The new product allowed these investors to access the Ford Credit name, despite their portfolio restrictions on non-investment-grade companies.

Moreover, the FUEL notes helped the issuer to cost-effectively transition to a high-grade capital structure while expanding its investor base.

"No matter how much they believed in the Ford story, some life insurance company investors don't have crossover funds; they have mandates to buy only investment grade," Scott Krohn, the director of long-term funding and securitization at Ford, told IFR last December.

"But this deal appealed to investors with investment grade-only mandates. It's truly bankruptcy remote, and it offers a delinked rating built off our securitization technology for retail loans."

INNOVATIVE SOLUTION

The hybrid bonds helped Ford to resolve an ongoing dilemma. As the company emerged from a car industry slump and its business turned the corner after a difficult few years, the firm came to realize it had a problem.

Its captive finance company had become heavily reliant on securitization during the crisis, and that was hampering the carmaker's attempts to reclaim its investment-grade corporate ratings. Rating agencies were worried that higher asset encumbrance would constrain funding flexibility.

Lead underwriter Bank of America Merrill Lynch devised a solution by structuring a security that had the collateral protection of an ABS package on day one but which converted to an unsecured bond when Ford achieved high-grade ratings.

On the front end, the bonds were issued as ABS notes backed by a revolving pool of Ford's prime retail auto loans - the gold standard in the ABS industry. The notes have a five-year revolving period during which additional retail auto loans are sold to the ABS issuer to maintain the collateral pool balance.

Because the FUEL notes had investment-grade ratings, they delivered substantial funding cost savings when compared with traditional unsecured debt issuance.

Moreover, FUEL achieved the goal of lowering asset encumbrance, because when the ABS is terminated, the previously encumbered auto loan assets supporting the ABS are released.

"Ford was able to show the equity markets, the fixed-income markets, the rating agenciesthat it was very serious about becoming investment-grade sooner rather than later," said Matt Basler, a co-head of FIG capital markets and financing at Bank of America, last year.

S&P said this week that the FUEL conversion could result in less auto ABS issuance from the company in future. However, some securitization specialists said that ABS still represented a big cost of funds benefit for the company, and that Ford would be unlikely to abandon ABS altogether.

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