A big chunk of $700 billion of off-balance-sheet debt conduits could return to the balance sheets of banks and their corporate customers as a result of a decision expected next month from the Financial Accounting Standards Board, an analyst says.
The FASB ruling on banks' treatment of special-purpose entities should have its biggest impact on commercial paper conduits, according to Goldman Sachs Group's Lori Appelbaum.
U.S. Bancorp, Zions Bancorp, and AmSouth Bancorp would be affected the most by such changes, while KeyCorp and Mellon Financial Corp. would be among the least affected. But a shift back to the balance sheet should have a minimal effect overall on the industry - lowering the equity-to-assets ratio by an average of 0.25%, Ms. Appelbaum said.
The effect is expected to be greater at U.S. Bancorp, Zions, and AmSouth because compared with other banking companies, their conduit assets are higher relative to the size of their balance sheets, Ms. Appelbaum said.
The change could have a bigger effect on corporate borrowers. If companies included commercial paper conduits on their balance sheets, she said, their leverage would increase and hence their lenders might have to amend financial covenants.
At issue is the clarity of financial statements. After Enron Corp. collapsed, the FASB decided to review the treatment of off-balance-sheet entities in an effort to improve transparency.
Special-purpose entities are a common tool at commercial banks and corporations. Some are commercial paper conduits - loans or securities conduits that house assets originated by the bank. And there are so-called multiseller and hybrid conduits, containing a mix of assets originated by a bank and its customers. Securitized assets and collateralized debt obligations are other forms.
The accounting-standards board is focusing on the conduits, which make up just part of the total $5 trillion in corporate debt. The outcome of its review "may be that a sizable portion of off-balance-sheet debt moves back onto the balance sheets of banks and their customers, depending on which entity retains the risks and economics of the assets," Ms. Appelbaum wrote in a research note published last week.
The organization said it plans to release a draft of the review next month and have new guidance in place by yearend. In the meantime, the board has tentatively decided that a certain class of special-purpose entities that would not need to be consolidated on the financial statement, which would generally include securitizations, a spokeswoman for the FASB said.
Of the various types of off-balance-sheet items, securitizations would probably not be affected, because in those structures the bank has relinquished control of the assets and transferred the risk to the bondholders, Ms. Appelbaum said. Collateralized debt and loan obligations would also likely remain off the balance sheet, because their risks are well diversified, she said.
Some banks have begun liquidating their off-balance-sheet entities anyway in their attempts to streamline lending.
Mellon is liquidating one of its two commercial paper conduits, Sweetwater Capital Corp., because after divestitures and repositioning, there was a big decline in commercial lending activity available for referral to the conduit, a spokesman said. At mid-May, Sweetwater's receivables were under $100 million, and the company said it expected the conduit to be liquidated by the third quarter.
