Our panel of market practitioners respond to readers' questions

Conor Houlihan, partner at DLA Piper, Ireland

Current dynamics in the banking sector are such that the opportunity for growth in non-bank lending in Europe is significant.  In certain segments of the market, fintech lending platforms can be more agile and better-placed to deliver what the market wants. 

Platforms with strong origination and underwriting capability can be an attractive partner through which banks and other funders can deploy capital and grow assets.  We see a significant amount of liquidity available to finance platform lenders.  The question of how to structure such funding is an important one – in particular, the merits of a forward flow arrangement versus warehouse financing. 

Structurally, a key difference between forward flow funding and warehouse financing is that forward flow involves a sale of the assets which could be beneficial ownership transferred to the funder at the outset, while warehouse financing is more akin to an asset-backed loan.  The allocation of risk in a forward flow arrangement differs from warehouse financing in that the ultimate credit risk sits with the funder, while the originator remains responsible for origination risk.  A consequence of the forward flow funder assuming all credit risk is that the cost of such funding - and the return earned by the funder - can be higher than in a warehouse financing.

A key benefit of forward flow structures from an originator’s perspective is that the funder’s balance sheet is used to originate loans.  This can allow an originator to establish itself, or a new product offering, in its market.  Forward flow funding can facilitate an originator to prove its ability to originate, underwrite and service product, which can broaden the range of funding options available to the originator as the business grows.  Given that the forward flow funder typically acquires the entire beneficial interest in all assets that meet the applicable eligibility criteria, risk retention requirements typically do not apply to forward flow structures.  This can be a major benefit from the perspective of the originator as it will not be required to provide additional subordinated funding to the structure.

Forward flow can provide a range of different funder types with an opportunity to gain exposure to, and diversify into, new markets or products.  The funder holds the assets on their balance sheet and, through reporting and other mechanisms, will have full visibility on the performance of the particular asset class.

From a documentation and structure perspective, forward flow arrangements – although they can be more bespoke – are typically less complex than warehouse financing, which can be another benefit for funders and originators who are minded to swiftly execute a funding transaction.

For the right originator-funder partnership forward flow structures can have many benefits.  More broadly, forward flow can also have a positive impact in terms of supporting the delivery of new mortgage and other products to the market.

Salim Nathoo, partner and head of the securitisation practice at A&O

We have seen an increasing number of forward flow transactions over the past few years.  They are undertaken by smaller lenders that don’t have access to significant deposits or other funding platforms.  We typically see transactions from mature lending businesses that have built strong origination and servicing platforms or from newer lenders looking to grow their businesses that can no longer rely on pure equity funding models.  The lending covers a range of asset classes from residential mortgages, consumer assets, auto assets, development finance and supply chain receivables.

Forward flow transactions will typically involve the original lender selling the portfolio to an SPV at the point of asset origination or shortly thereafter and the SPV sourcing funding from a bank.  Equity is either provided by the original lender or increasingly, particularly with newer origination platforms, by a private equity provider that is in essence buying the portfolio.  There may occasionally be a mezzanine funding provider also. 

The warehouse will typically anticipate an exit to a public securitisation when enough assets have been built up in the forward flow phase.  This allows for seasoning of the book and for originators to build up track record.  To the extent possible, the same rigour that would apply to a public securitisation is used when structuring forward flows – particularly as regards due diligence of the assets. 

The use of forward flow structures allows original lenders to obtain funding for new and innovative lending products.  As the transactions are private, they accommodate a range of different investors and funding structures.  This makes the forward flow structure a valuable tool in an originator’s funding options.

If you have a securitisation-related question that you’d like answering, please email as@structuredcreditinvestor.com