Ever seeking out new worlds to explore, securitizers have moved into the unlikely area of prescription drug receivables.
Fred B. Tarter, a producer of television movies, and former Citibank executive Jeffrey Greene are among the latest entrepreneurs to figure out how to unleash the power of asset-backed securitization to finance their growing businesses.
The two men, who five years ago formed a company called the Pharmacy Fund Inc., last year issued via Smith Barney Inc. $80 million of securities backed by bills owed to pharmacists from insurance companies.
Although securities backed by bills for prescription drugs might sound risky, Mr. Tarter and Mr. Greene point out that customers are more likely to pay their medical bills than their credit cards. Their securitization was rated "A" by Duff & Phelps Credit Rating Co. and bought primarily by Mutual of Omaha Insurance Co.
The cash gained from selling prescription-backed securities has enabled Mr. Tarter and Mr. Greene to enlarge their business. It now buys prescription receivables from 1,500 drug stores. They say they add 200 to 300 stores per month.
And they say they are preparing another, larger securitization for this year. Mr. Tarter is chairman and chief executive of the Pharmacy Fund; Mr. Greene is president.
For Mr. Tarter, whose background is in the entertainment business (he is an investor in a company that produces the "Spenser" movie series on the Lifetime cable channel and "Romance Movies" seen on the USA cable network), and Mr. Greene, who worked in the information systems department of Citibank "until the stock hit $8 in 1991," the opportunity to build a business via this unconventional route was too good to pass up.
"The market was ready for this kind of deal," Mr. Tarter said. "And doing a bond issue would have been expensive." Since its infancy in the mid-1980s at the Salomon Brothers mortgage desk, securitization has picked up momentum as the preferred form of financing at noninvestment-grade companies.
"Ten years ago a company might have issued high-yield debt and leveraged its balance sheet," said Dalia Lagoa, head of asset-backed securitizations at Societe Generale, the French bank. "Today they issue high-yield bonds and securitize as well because it's off-balance-sheet and it's a cheaper form of financing because of the higher ratings."
The magic of securitization is that a company with a low or even no investment rating can issue investment-grade paper. And unlike a high-yield bond offering, a private securitization requires no prospectus.
Asset-backed securities are basically bonds that are backed by specific streams of revenue, for example, the credit card bills or auto loans owed to a bank.
When grading these securities, rating agencies consider the credit quality of the cash flows rather than the company's overall performance. That is how securitization became a game even the less creditworthy could play.
These days commercial banks are stampeding up and down Wall Street to build their asset-backed securities desks. Nearly every month ratings agencies or investment banks are raided for talent. Societe Generale, for example, which is building up its investment banking operation in New York, has been recruiting underwriters and analysts from UBS Securities, a division of Union Bank of Switzerland.
These underwriters are constantly looking for the next hot product to securitize. For years they have salivated at the prospect of securitizing the vast amount of health care bills available. But the Pharmacy Fund deal is one of the few that has actually been packaged and sold.
"The problem with health care securities has been that the amount of the receivables is disputed," said Harry Apfel, the managing director at Smith Barney who led the Pharmacy Fund offering. "The doctor says the bill is 'X,' but the insurance company says it's 'Y.'"
But in the case of securitizing prescription receivables, the cost of the receivable is not in question. When a customer pays for a prescription, the pharmacist gets authorization via a computer, much as any merchant gets approval for a credit card purchase. In addition to proving that the customer is insured, the authorization also states the amount the pharmacist is to receive from the insurance company.
The problem pharmacists face is that insured customers usually don't pay the full price for drugs when they buy them. They might pay $5 for a prescription that really costs $25, and it's up to the pharmacist to collect the balance from the insurer. It ordinarily takes several weeks to settle accounts.
That's where Mr. Tarter and Mr. Greene step in. They have developed a computer system that has access to these transactions, and they offer to buy receivables from pharmacists as soon as they appear. The Pharmacy Fund collects about a 2% commission per purchase, and pharmacists get their money right away. The Pharmacy Fund then packages these receivables into securities and sells them to investors who collect some interest.
Smith Barney's Mr. Apfel said the creditworthiness of the securities is good because the ultimate obligor is an insurance company, not a consumer.
Mr. Tarter and Mr. Greene couldn't be more pleased. Now that they've got their business up and running, they conceive of extending their securitization idea to other branches of health care.
"You could take this approach to any kind of consistent health care- related bill-lab fees, dental bills, anything where there's a bill that must be approved by a third party," said Mr. Greene.
