Nine-ball in the corner pocket—the hard way - Financial Edge - financing railroad equipment may require skill and finesse - Brief Article

Railway Age, July, 2002 by Anthony Kruglinski

For those who are not aficionados of the game of pool, there are some shots that are straight in and some that require a certain level of skill and finesse: "Bank" shots. "Combos." Shots where spin and backspin make all the difference.

The same thing is often true in the world of equipment finance. There are simple deals--for instance, borrowing money to purchase locomotives or organizing a lease on a few cars. One way or another, for a price, most deals that need doing get done. What about the deals sitting out there that are already funded but not pulling all the weight they could pull in today's finance marketplace?

Recently, we heard of a deal where a shipper refinanced an existing transaction to lower its rent on approximately 1,000 cars--and had the cars rebuilt to boot. The net/net on the rental savings was in excess of $50 per car per month. The thing to focus on here was that the refinanced transaction had ten years yet to run. To get the new deal done, the utility and its financial advisor had to negotiate with the existing lessors and debt lenders to reach a mutually agreeable "unwind" of the existing transaction. The old deal was a leveraged lease with two lessors and three debt lenders. The old debt was paid off and replaced with new debt in the new deal. The same thing was true for the lessors (equity), except one of them liked the credit of the lessee and the to-be-rebuilt cars so much that it signed up for the new financing, refinancing the cars that had originally been the property of its sister lessor in the original deal. A new lessor was then brought in to refinance the cars originally owned by the lesso r staying in for the new deal. Why did the lessors (old and new) have to "swap" cars? By doing this, the deal qualified as a new transaction for tax purposes.

The point of all of this maneuvering was to use today's low interest rate environment together with the absence of really good deals in the equipment finance market to trade up to a better financial deal (and equipment deal, given the rebuilding that was made part of the new lease transaction) for the lessee.

A few additional disclosures on the above:

* The transaction would not have been possible if the lessors in the original transaction had not been motivated to sell out their positions and let the refinancing go forward. But since it is reasonable that they were faced--in a year with only modest other opportunities for profit--with an opportunity to cash out, they were agreeable to a negotiated sale of their positions.

* The debt in the original leveraged lease was required by the debt terms to accept a payoff payment in connection with the unwinding of the original lease transaction. However, the debt was also entitled to (and collected) a "make-whole" payment designed as a component of the original transaction. This was done to avoid the lender suffering a loss in redeploying--prior to the original termination debt of the loan--the payoff amount at rates materially less than that it (the lender) enjoyed in connection with the debt rate on the original loan into the original leveraged lease.

* To get this deal done the utility and its financial advisor had to negotiate with seven third-party institutions and--once the negotiations had produced agreement--herded the entire group to a single closing on a payment date for the original leveraged lease. All of this activity was expensive as to the time required from the principals and from the perspective of the costs (legal, filing, appraisal, etc.) of winding up the existing leveraged lease and rolling all of the equipment into a new transaction. The total value of the transaction exceeded $50 million. Smaller transactions that are as complicated (or more complicated) might be nonstarters from a variety of perspectives.

Do you have "hidden treasure?"

We would suggest that our readers look at their seasoned (as to vesting of tax benefits, usually seven years for rail equipment) but immature (as to their payoff date) equipment finance transactions to determine whether--I hate this term, but it really applies here--some "financial engineering" is in order.

Take a look at any so-called "synthetic" leases you may have booked over the last few years. They can usually be prepaid at par. Most important, just don't assume that a deal that has years of payments remaining is not worthwhile bolting at with an eye to refinancing or restructuring. Even if no one can be forced to do anything by the documents, their situation may have changed and evolved as much or more than yours.

Tony Kruglinski welcomes comments and controversy via e-mail at tkruglinski@railfin.com.