After a year of biting nails and protestation, collateralized loan obligation asset managers should not be materially impacted by FIN 46 after the Financial Accounting Standards Board revised its interpretation of the contentious measure on Dec. 24. "It's a welcome change. As soon as FIN 46 was up for reconsideration, people were optimistic," said Jim Mountain, a partner at Deloitte & Touche.
The change may have been the FASB's attempts at an early Christmas present, he noted, but it does not solve all problems for all transaction types. But it probably lets most CLO managers off the hook. Prior to FIN 46, managers who owned less than a majority of the equity in a CDO and some subordinated debt were not required to consolidate, or include the debt on their balance sheet. Under FIN 46 this was no longer the case. CDO manager fees were included in the calculation for who holds the majority interest, and according to Mountain, this fee inclusion was overweighted. "The fundamental change to FIN 46 that provided relief to many CDO managers was the substantial revision to paragraph eight that changed the definition of expected residual returns," stated Mountain.
He explained that the change removed the bias that counted the full amount of fees to decision makers. "Most collateral managers won't count as beneficiaries under the two tests. The people that will still consolidate are collateral managers that have a significant investment in the riskier tranches," he added. Instead of including the full amount of the collateral manager's fees in the threshold calculation, only the variability in fees, effectively subordinated and incentive fees, affects the threshold calculations used to determine consolidation. Those managers that are likely to still face consolidation are CDOs backed by high-quality assets, according to a research report by Daniel Castro, managing director, structured finance research at Merrill Lynch.