Last Updated: June 1, 2012

Notes and Accounts Receivables
1. Outlines of Assets for the Securitization
Enterprises are able to receive the benefits of off-balancing or diversification of fundraising methods
by securitizing notes receivable or trade receivables they hold. In case of securitizing trade receivable,
however, it is hard to eliminate fraud risks or commingling risks due to their natures and there are manycases where special non-assign ability clauses are attached to them. Therefore it is rather difficult forenterprises to securitize trade receivable on their own and so, they normally use ABCP or ABL programs
sponsored by financial institutions they are dealing with.
On the other hand, the above mentioned risks that are hard to be eliminated in case of securitizationof trade receivable, can be blocked off in case of notes receivables because the cutoff of defense can beachieved by transferring notes held by originators to SPV, etc., in the form of no-warranty endorsement.
For these reasons, securitized notes receivable attached with credit ratings constitute greater portion ofsecuritized accounts receivable.
General characteristics and rating methods for securitized notes receivable are described below.
Points at issues in securitizing trade receivable are stated in the ending of this report.
2. General Scheme
Being assumed here is a scheme whereby a SPC becomes a transferee of notes receivable and gets aloan backed by a pool of such notes receivable from an investor.
(i)

An originator transfers its notes receivable to a SPC. Such originator delivers the subject notes
with no-warranty endorsement.

(ii) The SPC raises funds through assets-backed loans (ABL) from investors in getting transfer of suchnotes.
(iii) The SPC pays to the originator the fund it raises through ABL as the proceeds for such notes itpurchases.
(iv) The SPC entrusts clerical works related to the collection of notes to a bank, etc., and such bankcollects the notes.
Credit rating is assigned for the assuredness regarding such ABL of whether (a) prescribed interest ispaid at the due date and (b) principal is repaid in full by the final due date.

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[Scheme Chart]
Note

Transfer ofNotes

Buyer
TradeBuyer

Originator

Buyer

SPCProceeds ofthe purchase
ABLInvestor

As long as certain conditions are met, a rating can be assigned to a program, under which securities(or loans) are issued repeatedly pursuant to the related contract documents.
When JCR assigns a rating to such program, it is necessary to predetermine period of the program,
upper limit on issue and subordination ratio to be set. Additionally, it is necessary for JCR to receive inadvance representations and warranties from rating stakeholders for accuracy of contracts and documents
to be received from them when they carry out securitization.
Each time when securities (or loans) are issued under the program, JCR goes through procedures for
rating affirmation.
3. Key points (elements) for the Credit Rating(1) Credit risks of notes receivable
There are risks of dishonor or jump (extension of maturity) of notes receivable held by an
originator that could delay the scheduled collection of notes thereby diluting the worth of notes
receivable. These risks shall be analyzed based on the past occurrence status of default and credit
capabilities of underlying obligors of the transferred notes, and a reserve shall be established for thenecessary amount equivalent to a subordinated portion of notes computed by a subordination rate
derived from such analysis results.
(2) Commingling risks
If proceeds of notes were paid directly to an originator from underlying obligors and suchoriginator was driven into default before the proceeds were delivered to a SPC, proprietary assets of theoriginator and the proceeds of notes could be commingled and it is possible that the collected proceeds
could not be delivered as scheduled (commingling risks).
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If there is a scheme by which the underlying notes receivable are transferred to the SPC and theproceeds are directly credited to the SPC by a bank that collects the notes as a collecting agent, no riskof commingling proceeds of notes with originator’s assets could arise1.
(3) Requirement setting up against third parties
The transfer of notes receivable is set up against any third parties by endorsement thereon asprovided in Article 13 of the Law on Bills (Form of Endorsement).
(4) Registration based on Money-lending Business Law is needed or not for a SPC
A SPC purchases notes receivable from an originator in exchange for ABL. SPCs are not registeredas money lenders under Article 3 of the Money-lending Business Law, and therefore the act ofpurchasing notes could conflict with the Law. This risk is being protected by receiving a legal opinion
from an arranger and confirming its details.
(5) Bank account for collected fund
Relationship between credit rating assigned to securitized notes receivable and credit rating granted
to a bank with which a deposit account is opened to receive collected funds is shown as follows.
Rating for securitized instruments

J-1+ ~ J-1

J-2

Qualified account for collected funds

J-1 or above

J-2 or above

If a bank with which a deposit account is opened to receive collected funds does not meet the above
rating qualification, it is requested that the bank will be changed to one which meets the qualification.
4. Computation Method of Subordination Rate
A large-number pool approach or CDO approach is applied to calculate a subordination rate for apool of notes receivable. In general, a large-number pool approach is adopted in case where the numberof underlying obligors composed of a pool of notes receivable is 300 or more, and the ratio of eachamount of note receivable to total amount of notes receivable (obligor concentration) is below a certain
level, and a CDO approach is applied to cases other than the foregoing.
(1) Large-number pool approach(i) Analysis method summary
A large-number pool approach will be adopted in case where the number of underlying
1

Even in the case of securitizing notes receivable, it is necessary to additionally establish a reserve for a subordinatedportion of commingling risks, if the collected proceeds of notes go through originator’s account.
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obligors is about 300 or more2.
In this approach, a large number of obligors with a small amount of debts composing of a poolof notes receivable are all assumed to have the same attributes. Under this assumption, attributes of apool of notes receivable are presumed based on historical data and a securitization period, thereby anecessary subordination rate is calculated deeming the pool as one mass. This approach is a method
generally used for a pool composing of many and diversified obligors, but it could be exceptionallyadopted even in case where concentration of certain superior obligors is seen. In such case, it isnecessary to adjust the subordination ratio, judging credibility of such superior obligors individually.
(ii) Historical data analysis/base case determination
Under the large-number pool approach, the default rate (base case) assumed for obligors of apool of notes receivable is determined referring to historical data.
Such historical data indicates histories related to credit troubles including dishonor and jumpof notes receivable held by the originator. In determining a base case, an appropriate level is adopted
after confirming difference between the definitions of credit troubles provided in historical data
received and those in securitized items, difference between the based default ratio in terms of theamount and that in terms of the number of items, and similarity of a mother pool used to calculate
historical data and a securitized pool of receivables. In general, the average value of default ratio forsecuritized items is adopted in many cases. However, in cases where the number and the amount ofdefaults is judged to be trending upward most lately, or noteworthy events are observed such as theoccurrence of a large-lot obligor’s default, another appropriate level is to be separately adopted
taking into consideration future trends of default occurring to notes receivable held by the originatorand characteristics of a securitized pool of notes.
(iii) Stress multiplying factors
Under the large-number pool approach, an assumed default ratio, which is used for thesimulation is determined by applying stress multiplying factor corresponding to each transaction tobase default ratio.
A stress multiplying factor corresponds to the rating for the securitized instruments. There are
multiple numbers of factors that can be adopted in such case, including factors obtained bymultiplying a base case with fixed numbers or those using standard deviation values of historical
data. A factor appropriate to an individual item is adopted.
Other than the foregoing, to be reviewed are qualitative factors including a risk ofconcentration of locations of obligors of a pool of notes receivable (regional concentration risk), or arisk of concentration of obligors’ business types (business type concentration risk), and they are to
be added to stress multiplying factors corresponding to the above credit rating as needed.
2

Even if the number of obligors is about 300 or more, there are some cases where the use of large-number poolapproach is judged improper, (i) in case the number of obligors drastically decrease at the initial stage of asecuritization period and (ii) in case the degree of concentration of superior obligors is extremely high.
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(iv) The number of assumed default cases and Monte Carlo Simulation
The number of defaults which are assumed to occur during a securitization period for a pool ofnotes receivable is to be calculated based on the assumed default ratio obtained based on the above(iii).
In addition, a risk curve related to loss amount is to be drawn performing Monte CarloSimulation for a certain number of times assuming that the foregoing number of defaults could occur
randomly to the pool of notes receivable.
The necessary subordination amount for the pool of receivables is calculated using the risk
curve by reference to a cut point, which corresponds to the rating of the securitization product andthe securitization period.
If concentration of superior obligors is observed in a pool of notes receivable to be rated, afinal necessary subordination amount is to be determined also taking into consideration a case wheresuch superior obligors intensively default.
(2) CDO approach(i) Outlines of analysis method
A CDO approach is adopted in case where the number of underlying obligors of a pool ofnotes receivable to be securitized is small, and the level of amount concentration is high.
Under a CDO approach, differently from a large-number pool approach, a subordination levelis calculated by performing Monte Carlo Simulation which individually allocates a default ratio toeach underlying obligor and assumes that such underlying obligors may randomly fall into default
based on such probability. Meanwhile, as concentration of superior obligors is often observed in caseof a pool to which a CDO approach is adopted, the final necessary subordination amount is to be
determined taking into consideration also the impact of a case where such superior obligors
intensively default. If regional concentration or business type concentration is seen, thesubordination ratio will be separately adjusted.
(ii) Allocation of a default ratio to an individual obligor
An assumed default ratio to be allocated to an underlying obligor is estimated from a JCR’srating, in the case of an obligor to whom rating is assigned by JCR, or with default rate calculation
models of JCR, in consideration of available financial statements and grade information of external
credit agencies. In addition, if there are internal ratings of financial institutions, there are some cases
where default ratios corresponding to such information are assumed using a mapping method.
As maturity dates of notes receivable in the same pool are mostly different from each other, thedefault ratio corresponding to a term of each note receivable is to be allocated.
(iii) Stress loaded on risks inherent to a pool of notes receivable
Under a CDO approach, because there are not so many obligors in a pool of notes receivable,risk judgment is made for each obligor and a default ratio corresponding to each of them is
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determined. Further, stress is loaded additionally on the risk as needed confirming qualitative factors
such as capital ties and client relationships centering on superior obligors in particular.
Concerning capital ties, companies considered to be consolidated with a certain obligor andcompanies deemed quite identical such as group companies are analyzed as companies belonging to
the same obligor group.
In addition, if there are trade relationships between underlying obligors and the relationship isdeemed quite close, a simulation is likely to be conducted assuming that default of one obligor could
lead to chain bankruptcies of others.
If locations or types of businesses of underlying obligors of a pool of notes receivable areconcentrated, additional stress will be loaded on risks assuming cases where negative events could
intensively occur in such region or business type.
(iv) Determination of subordination level by Monte Carlo Simulation
Under the foregoing premises, a risk curve related to loss amount of a pool of notes receivable
is to be drawn performing Monte Carlo Simulation for a certain number of times after individually
allocating a default ratio.
The necessary subordination amount for the pool of receivables is calculated using the risk
curve by reference to a cut point, which corresponds to the rating of the securitization product andthe securitization period.
Similarly with a large-number approach, if concentration of superior obligors is observed in apool of notes receivable to be rated, a final necessary subordination amount is to be determined also
taking into consideration a case where such superior obligors intensively default.
5. Use of Electronically Recorded Monetary Claims
Electronically recorded monetary claims are new type of monetary claims, which are neither notes
nor nominative claims, and for which their rights accrue by way of recording of the record matters into
the registry managed by the Electronic Monetary Claim Recording Institution.
The following are important points for the electronically recorded monetary claims: In addition toagreement of the parties, electronic records into the registry managed by the Electronic Monetary Claim
Recording Institution are required for accrual of their rights; and these claims are claims discrete fromunderlying claims that are causes for accrual of these claims.
Under the electronically recorded monetary claims system, efforts to eliminate risk recognized inaccounts receivable have been made institutionally. JCR thinks it possible therefore to assign a rating tosecuritization using electronically recorded monetary claims.
Many of materials and procedures that are required for rating in this case overlap with such materials
and procedures that are required for securitization of notes receivable in principle. In addition to thesematerials and procedures, it is required to interview the Electronic Monetary Claim Recording Institutionin advance.
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For your reference: Issues to be addressed in performing securitization of trade receivable(1) Fraud Risks
Fraud risk means the risk that no receivable itself exists or that it has been already transferred to thethird persons even if it exists. In case of notes receivable, fraud risks are unlikely to arise as notes
themselves are transferred to SPV, etc. with unsecured endorsement. In case of trade receivable,
however, it is generally hard for third persons to confirm the existence of receivable in a securitization
scheme, due to which it is considered to be hard to eliminate such fraud risks.
(2) Dilution Risks
Dilution risk means the risk that could reduce the initial amount of receivable due to return or
discount of merchandizes. The securitization of notes receivable will not entail dilution risk because theright of defense is cutoff. In case of trade receivable, however, collected funds for a securitized pool ofreceivables could decrease. To avoid such risk, it is necessary to discuss in advance processes generatingsuch dilution or response measures after the dilution, and to establish a scheme that would prevent suchdilution risks from rising up to the surface.
(3) Requirement Setting up Against Third Parties
If requirement is not set up against third parties for securitized trade receivable, there is a risk todilute cash flow because a transferee is unable to defend against obligors if an originator falls in default.
The acquisition of requirement setting up against third parties is imaged to be foreign to thesecuritizations of trade receivable because there are many cases where they are assumed to be
implemented without giving notices to any obligors, and it is expensive to acquire such requirement.
This becomes one of the significant obstacles in implementing the securitization.
(4) Commingling risks
In securitizing trade receivable, commingling risk should be taken into consideration if funds
collected from receivables go through the account of the originator. It is a general rule to consider thatthe largest amount likely remaining in the originator’s account during a securitization period entails thecommingling risk and the ratio of the amount to receivables to be securitized tends to become bigger.
Accordingly, to be considered are counter measures to establish a scheme avoiding the occurrence ofsuch commingling risk by shortening a period during which the fund remains in an originator’s accountor changing the account of collected funds receiving from obligors.

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Because of the possibility of human or mechanical error as well as other factors in the information herein, JCR makes no representation orwarranty, express or implied, as to accuracy, results, adequacy, timeliness, completeness or merchantability, or fitness for any particular purpose,with respect to any such information, and is not responsible for any errors or omissions, or for results obtained from the use of such information.
Under no circumstances will JCR be liable for any special, indirect, incidental or consequential damages of any kind caused by the use of any suchinformation, including but not limited to, lost opportunity or lost money, whether in contract, tort, strict liability or otherwise, and whether suchdamages are foreseeable or unforeseeable. Information herein is statements of opinion, and not statements of fact as to credit risk decisions or
recommendations regarding decisions to purchase, sell or hold any securities such as individual bonds or commercial paper. JCR retains all rights
pertaining to this document. Any reproduction, adaptation, alteration, etc. of this document, is prohibited, whether or not wholly or partly, without
prior consent of JCR.

Japan Credit Rating Agency, Ltd.
Jiji Press Building, 5-15-8 Ginza,Chuo-ku, Tokyo 104-0061, Japan
Tel. +81 3 3544 7013, Fax. +81 3 3544 7026

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