Alert April 13, 2010

SEC Proposes Significant Revisions to Regulation AB and Other Rules Regarding Asset Backed Securities

The SEC issued a proposed rule on April 7, 2010, that would have sweeping effects on the offering process and disclosure and reporting requirements for asset-backed securities (ABS).  The recent financial crisis highlighted that investors and other participants in the securitization market “did not have the necessary tools” to be able to fully understand the risk and value of ABS, according to the SEC.  In response, the SEC intends its proposals to offer comprehensive protections to investors, as well as to promote efficient capital formation.  Major elements of the proposal are noted below.  Comments on the proposed rule will be due 90 days following publication in the Federal Register

Increased Disclosure and Reporting Requirements

Under the proposed rules, issuers would be required to disclose specific data relating to the terms, obligor characteristics, and underwriting for each loan or asset in the asset pool.  Issuers would have to provide this information in a machine-readable, standardized format at the time of the securitization, when new assets are added to the pool and on an ongoing basis. 

Furthermore, issuers would be required to file a “waterfall computer program” that would allow users to input information from the asset data file and evaluate the ABS. 

Issuers would also be required to file a Form 8-K for a 1% or more change in any material pool characteristic from what is described in the prospectus, which would be a significant change from the current 8-K filing standard of a 5% change.

Changes to Shelf Registration Procedures for Asset-Backed Securities

The proposed rules would revise the filing deadlines in shelf offerings in order to require an issuer to file a preliminary prospectus at least five business days prior to the first sale in the offering.

Shelf eligibility for asset-backed securities would no longer be based on receiving an investment grade credit rating; instead, shelf eligibility would require the following:

  • A certification by the registrant’s CEO that the assets in the pool have characteristics that provide a reasonable basis to believe that they will produce, taking into account internal credit enhancements, cash flows to service payments on the securities as described in the prospectus;
  • The sponsor (or an affiliate of the sponsor) must retain a net economic interest (measured at issuance and then maintained on an ongoing basis) in each securitization by retaining at least 5% of the nominal amount of each of the tranches sold or transferred to investors, net of hedge positions directly related to the securities or exposures taken by such sponsor or affiliate (or in the case of revolving asset master trusts, 5% of the nominal amount of securitized exposures, net of hedge positions directly related to the securities or exposures taken);
  • The pooling and servicing agreement (or another agreement) must contain provisions requiring the issuer to furnish periodic (and at least quarterly) third party opinions confirming that purchases or replacements of assets comply with the issuer’s representations and warranties in the agreement; and
  • The issuer would be required to file Exchange Act reports with the SEC.

The SEC is proposing to create new Forms SP-1 and SF-3 for registered ABS offerings.  Under the proposed rules, significant changes would be made to delayed shelf registrations under the new Form SF-3.  Issuers would no longer file a base prospectus and prospectus supplements for shelf registrations and takedowns.  Instead, the proposed rules would require issuers to file a single prospectus for each takedown including all of the information required by Regulation AB, which could potentially end the ability of issuers to incorporate information into takedown prospectus supplements by referring to a base prospectus. 

Changes to Private Placement Safe Harbors

The proposed rules would give investors in private placements similar rights to information in public offerings of ABS.  Under current Reg. AB and securities rules, issuers can avail themselves of the Rule 144A exemption for resales and other private placements and of the exemption for private offerings under Rule 506 of Regulation D.  The SEC’s proposed would require enhanced disclosure by ABS issuers who rely on these safe harbors by requiring the underlying transaction agreement for the securities to “grant to purchasers, holders of the securities (or prospective purchasers designated by the holder) the right to obtain from the issuer of such securities the information, upon request, that would be required if the transaction were registered under the Securities Act and such ongoing information as would be required under by Section 15(d) of the Exchange Act if the issuer were required to file reports under that section.” 

Furthermore, ABS issuers relying on the Rule 144A exemption would be required to (1) file a public notice on EDGAR of the initial placement of the structured finance products that are eligible for resale under Rule 144A; and (2) provide offering materials to the SEC upon written request. 

Outstanding Asset-Backed Securities Not Subject to Proposed Rules

Importantly, the proposed rules would only apply to new issuances of asset-backed securities.  Outstanding asset-backed securities would not be subject to the new regulatory regime.