SPECIALPURPOSEENTITY

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SPECIALPURPOSEENTITY Aspecialpurposeentity(SPE;or,especiallyinEurope,specialpurposevehicle/SPV,inIrelandFVCfinancial vehicle corporation) is a legal entity (usually a limited company of some type or, sometimes, a limited partnership)createdtofulfilnarrow,specificortemporaryobjectives. SPEsaretypicallyusedbycompaniestoisolatethefirmfromfinancialrisk. AcompanywilltransferassetstotheSPEformanagementorusetheSPEtofinancealargeprojectthereby achievinganarrowsetofgoalswithoutputtingtheentirefirmatrisk. SPEs are also commonly used in complex financings to separate different layers of equity infusion. In addition,theyarecommonlyusedtoownasingleassetandassociatedpermitsandcontractrights(suchas anapartmentbuildingorapowerplant),toallowforeasiertransferofthatasset. Moreover,theyareanintegralpartofpublicprivatepartnershipscommonthroughoutEuropewhichrelyon aprojectfinancetypestructure. Aspecialpurposeentitymaybeownedbyoneormoreotherentitiesandcertainjurisdictionsmayrequire ownershipbycertainpartiesinspecificpercentages. OftenitisimportantthattheSPEnotbeownedbytheentityonwhosebehalftheSPEisbeingsetup(the sponsor). For example, in the context of a loan securitization, if the SPE securitisation vehicle were owned or controlledbythebankwhoseloansweretobesecured,theSPEwouldbeconsolidatedwiththerestofthe bank's group for regulatory, accounting, and bankruptcy purposes, which would defeat the point of the securitisation. ThereforemanySPEsaresetupas'orphan'companieswiththeirsharessettledoncharitabletrustandwith professional directors provided by an administration company to ensure that there is no connection with thesponsor.

SOMEOFTHEREASONSFORCREATINGSPECIALPURPOSEENTITIES SPEsarecommonlyusedtosecuritiseloans(orotherreceivables).Forexample,abankmaywishtoissuea mortgagebackedsecuritywhosepaymentscomefromapoolofloans.However,toensurethattheholders ofthemortgagebacksecuritieshavethefirstpriorityrighttoreceivepaymentsontheloans,theseloans needtobelegallyseparatedfromtheotherobligationsofthebank.ThisisdonebycreatinganSPE,and thentransferringtheloansfromthebanktotheSPE. Risksharing:CorporatesmayuseSPEstolegallyisolateahighriskproject/assetfromtheparentcompany andtoallowotherinvestorstotakeashareoftherisk. Finance:MultitieredSPEsallowmultipletiersofinvestmentanddebt. Asset transfer: Many permits required to operate certain assets (such as power plants) are either non transferableordifficulttotransfer.ByhavinganSPEowntheassetandallthepermits,theSPEcanbesold asaselfcontainedpackage,ratherthanattemptingtoassignovernumerouspermits. Forcompetitivereasons:Forexample,whenIntelandHewlettPackardstarteddevelopingIA64(Itanium) processor architecture, they created a special purpose entity which owned the intellectual technology behind the processor. This was done to prevent competitors like AMD accessing the technology through preexistinglicensingdeals. Financialengineering:SPEsareoftenusedinfinancialengineeringschemeswhichhave,astheirmaingoal, theavoidanceoftaxorthemanipulationoffinancialstatements. Regulatory reasons: A special purpose entity can sometimes be set up within an orphan structure to circumventregulatoryrestrictions,suchasregulationsrelatingtonationalityofownershipofspecificassets.
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Propertyinvesting:Somecountrieshavedifferenttaxratesforcapitalgainsandgainsfrompropertysales. For tax reasons, letting each property be owned by a separate company can be a good thing. These companies can then be sold and bought instead of the actual properties, effectively converting property salegainsintocapitalgainsfortaxpurposes.

ESTABLISHMENTOFASPE Likeacompany,anSPEmusthavepromoter(s)orsponsor(s). Usually,asponsoringcorporationhivesoffassetsoractivitiesfromtherestofthecompanyintoanSPE. Thisisolationofassetsisimportantforprovidingcomforttoinvestors. Theassetsoractivitiesaredistancedfromtheparentcompany;hencetheperformanceofthenewentity willnotbeaffectedbytheupsanddownsoftheoriginatingentity. TheSPEwillbesubjecttofewerrisksandthusprovidegreatercomforttothelenders. WhatisimportanthereisthedistancebetweenthesponsoringcompanyandtheSPE. Intheabsenceofadequatedistancebetweenthesponsorandthenewentity,thelatterwillnotbeanSPE butonlyasubsidiarycompany.

ACCOUNTINGGUIDANCE Under US GAAP, a number of accounting standards apply to SPEs, most notably FIN46R that sets out the consolidationtreatmentoftheseentities. ThereareanumberofotherstandardsthatapplytodifferenttransactionswithSPEs. UnderInternationalFinancialReportingStandards(IFRS),therelevantstandardisIAS27inconnectionwith theinterpretationofSIC12(ConsolidationSpecialPurposeEntities). TheIASBpublishedanexposuredraft(ED10)tomergebothregulations.

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