This article has some details about the way Enron's limited partnerships where set up. The site requires (free) registration so ordinarily I would post the article but its a bit long. I' quote one part of it.
The Brick Stood Up Before. But Now?
By DIANA B. HENRIQUES
nytimes.com
"BUT it can become a lot more creative than that, said Jay H. Eisbruck, senior vice
president for structured finance at Moody's (news/quote). By the end of the 1990's,
Wall Street's financial carpenters had created special-purpose entities whose
securities were backed by almost any stream of future cash flow you can imagine,
from court judgments to Medicare payments to music royalties to, yes, the bar tabs
at British pubs and the future ticket sales for a diverse portfolio of DreamWorks
movies. (The collateral for one such deal included the ticket sales for "Saving
Private Ryan.")
Deals like that almost always require some sort of credit enhancements to assure
investors that if the expected revenues fail to materialize — because of a sudden
outbreak of temperance in London, perhaps — someone will make sure they are
paid. A financial guarantee from a bank or insurance company is always
appreciated, but investors will often simply accept a stack of collateral that greatly
exceeds the face value on their notes.
Special-purpose vehicles are also central to the creation
of synthetic leases, another product from the
structured-finance carpentry shop that has been used by a
host of companies — including, unfortunately for its
advocates, Enron. A special- purpose entity set up by
Enron bought the company's headquarters building in
Houston and leased it backed to the company.
Often, such special-purpose vehicles raise the money to
buy the buildings by selling notes to outside investors, just
as in traditional securitizations. Thanks to quirks in
accounting rules and tax regulations, this arrangement
allows the original corporate owner to remove mortgage
debt from its balance sheet while still claiming a tax
deduction for the interest on the debt.
When a special-purpose entity need not rely on public
investors to raise money, however, the architecture can
become baroque, with cantilevered extensions, balconies
and breezeways that attach to other deals. And that is what
happened at Enron.
Consider what is known in Enron circles as "the Sequoia
deal," an arrangement that created a source of funds
suspended somewhere between equity and debt.
It was based on a template devised a decade ago by
Goldman Sachs (news/quote), which called the securities
involved Monthly Income Preferred Stock, or M.I.P.S.
These once-novel but now widely used securities give
issuers the tax benefits of debt but look like equity on their
balance sheets. (Rating agencies and analysts are not
fooled, said Brian M. Clarkson, senior managing director
for structured finance at Moody's, and unlike some Enron
deals, such arrangements are usually fully disclosed.)
Merrill Lynch (news/quote) followed with its own twist on M.I.P.S., and other
investment banks developed their own refinements, adding a bell here or a whistle
there. J. P. Morgan Chase customized it for Enron, expanding the floor plan to
include no fewer than four interconnected special-purpose entities:
• At the hub was Sequoia, which bought accounts receivable from Enron and paid
for them with money borrowed from the special entity next door, called Cherokee,
through the private sale of some asset- backed notes.
• Cherokee, controlled by Enron through another entity called Cheyenne, got the
money to lend to Sequoia by selling Cherokee common shares to Enron and selling
those chameleon-like preferred shares to an adjacent independent entity called
Choctaw.
• Choctaw was controlled by outside equity investors and financed by bank loans
organized by Morgan.
Then, after the financial carpenters from Morgan had swept up the sawdust and left
Houston, Enron expanded the deal on its own, adding another matching wing that
stretches off the Sequoia hub, with the money raised through a fifth special-
purpose entity called Zephyrus.
The resulting Sequoia structure resembles the original M.I.P.S. template about as
much as the space shuttle resembles the Spirit of St. Louis. And it has had a few
malfunctions under the stress of Enron's bankruptcy. J. P. Morgan Chase has had to
sue Enron to get an accounting of the assets contained in Sequoia, which it argues
are the property of the secured lenders.
(Unlike the owners of Enron's asset-backed debts, who will quickly get all their
money back thanks to those bank lines of credit, secured lenders like banks and
bond holders may wait years to find out how much, if anything, they will recover.)
MORGAN has also had to sue to force a group of insurance companies to honor the
financial guarantees that the bank obtained to enhance the creditworthiness of
another elaborate structured- financing deal it did for Enron, the oft-scrutinized
Mahonia arrangements, whose fund-raising architecture included the use of various
derivatives.
And, like all of Enron's lenders, Morgan now knows that its client had used some
structured-financing techniques to conceal billions of dollars of debt from lenders,
investors and credit analysts.
"It would appear that none of Enron's service providers or bankers saw the entirety
of what Enron was doing," said Bill Winters, co-head of the fixed-income trading
operation at J. P. Morgan Chase. "The entirety was known only to Enron." " |
