It seems an unlikely deal at first glance: a South Korean airline borrowing yen against its future Japanese ticket sales. With continuing tensions in North Korea, the fear that Sars may return in the winter and the Korean penchant for industrial action, it is a brave investor who bets that Korea Air Lines can keep up its repayments.
In recognition of this, KAL's ¥27 billion ($234 million) cross-border securitization will come with a full guarantee from the Korea Development Bank. Without it the deal would have been impossible to sell.
As recently as June 2003 the airline's revenue from its lucrative Japan routes slumped to ¥2.5 billion; half the average monthly figure. But with KDB promising to make up any shortfall on interest payments investors are getting, in effect, a guarantee from the Korean government - KDB is a state-owned policy bank.
But observers say air traffic between Japan and Korea is normally strong and argue that there is only a remote chance that it will fall to the levels experienced during the Sars outbreak. Even a recurrence of the virus this winter would be unlikely to cause a repeat of the first epidemic given the preparedness of medical agencies around the region they add.
The real challenges of the deal, which is now being arranged by Nomura, derive from its novel structure. KAL is the first Korean originator to issue asset-backed securities denominated in yen and the first to test the future-flow model in Japan. It will be the biggest ticket receiveables deal ever completed and the first to securitize receiveables from the International Air Transport Association's billing and payment unit - the global system that handles air ticket purchases. Previous air ticket deals securitized credit card payments.
The team at Nomura has experience in the field having worked on similar deals for Philippine Air Lines, Asiana and Cosco. It also originally proposed the KAL deal, but lost out to SG, which was able to leverage a close relationship with the controlling shareholder, Hanjin Group.
But by June this year Nomura had taken over the deal. Being a cross-border deal there were problems getting the tax structure right: "Things that worked in one jurisdiction didn't work in the other," says one expert. Japan and Korea were not the only jurisdictions involved either. IATA, the body, which processes ticket sales and passes on the proceeds to airlines, is based in Canada so a "true sale" had to be ensured under Canadian law.
In other respects the deal is structured like a conventional Japanese cross-border securitization, using two special purpose vehicles; one in Ireland and one in Cayman. The Cayman SPV will issue ¥27 billion notes with a three-year maturity, paying an annual rate equivalent to the sum of one-month Libor plus an additional margin on an actual/360 basis. The KDB guarantee will bring the Standard & Poor's rating up to Korea's foreign currency level of A- according to the S&P pre-sale report.
The deal is expected to be cleared by KAL and KDB this week.