Description
Securitization is the process of pooling income-generating assets, such as loans, leases or receivables, and selling them as tradable securities. This financial technique transforms illiquid assets into standardised instruments and provides a way to raise capital for projects. Cash flows from the underlying assets are used to pay interest and principal to the investors.
The issuer creates a special purpose entity (SPE) that is insulated from the corporate risk of the parent company. The SPE creates and sells securities to investors, who receive interest payments based on the underlying cash flows. Securitization can involve complex structures such as tranching, where securities are divided into different risk and return categories tailored to the preferences of various investors.
Benefits
Securitization allows financial institutions to recycle funds by offloading mature project investments, freeing up capital for new developments and market growth. It also broadens the investor base by creating standardised investment products that meet the needs of traditional investors and diversify risk. On top of diversifying sources of capital, this method provides a layer of protection to the company's balance sheet, reducing perceived leverage and potentially improving credit ratings. Additionally, securitization can offer a lower cost of capital by providing access to longer-term funding at more favourable rates and a predictable return. While securitization requires mature capital markets to ensure the presence of sufficient securities investors, it is a promising strategy to unlock capital and distribute risks in an EMDE context.
Case Study
The Eastern and Southern African Trade and Development Bank participating in a securitization deal in Kenya
In 2023, the Eastern and Southern African Trade and Development Bank (TDB) participated in a landmark USD 130 million securitization deal arranged by Citi, aimed at broadening access to off-grid solar energy in Kenya. The deal, denominated entirely in Kenyan Shillings, marked a first-of-its-kind for the region and involved securitizing future payments from over a million customers who purchase solar products through a pay-as-you-go model. By pooling these anticipated cash flows, the transaction created tradable securities, which were sold to investors. This mechanism allowed the solar solution distributor, Sun King, to access substantial capital to further expand its operations and deliver clean, affordable energy to Kenyan households and businesses.
Securitization provided a way to convert the illiquid future payments into liquid securities, attracting a diverse range of investors including development finance institutions and commercial banks. Notably, the deal included contributions from institutions such as ABSA Kenya, British International Investment, FMO, Norfund, and Standard Bank Kenya. The arrangement not only facilitated access to finance for solar projects but also provided a model for future securitizations in the renewable energy sector, particularly in emerging markets. The transaction was further supported by Sun King's Sustainable Financing Framework, which emphasized sustainability and contributed to meeting the United Nations Sustainable Development Goals.
Additional Sources
- Dr. Francis M. O’Sullivan & Charles H. Warren, MIT Energy Initiative, Solar Securitization: an innovative renewable energy finance, 2016, https://energy.mit.edu/wp-content/uploads/2016/07/MITEI-WP-2016-05.pdf
- Travis Lowder & Michael Mendelsohn, National Renewable Energy Laboratory, The Potential of Securitization in Solar PV Finance, 2013, https://www.nrel.gov/docs/fy14osti/60230.pdf
- https://www.climatebonds.net/projects/models/securitization
- https://www.tdbgroup.org/tdb-and-consortium-of-lenders-to-broaden-access-to-finance-for-off-grid-solar-in-kenya-via-usd-130m-transaction-with-sun-king-arranged-by-citi/