No consensus has emerged on the effects of the Enron bankruptcy on the US leasing market. Whilst there have been concerns that tricksy off balance sheet vehicles and earnings boosting structures would scare away equity investors, some activity has continued. But it was not really a vintage year for the US power leveraged lease market. There are several reasons for this drop-off in activity, but most leasing specialists are putting it down to the current US construction cycle.

The four large lease bond issues in 2000, Reliant/Sithe, Mirant Americas Generating, PPL Montana and Edison MidWest, were all related to assets that had been sold off by restructuring owners ? Sithe, Pepco, Montana Power and ComEd respectively. This year, however, plant sales have been thinner on the ground, and confined to some of the more exotic asset classes, such as nuclear plants.

The most significant sale-lease back transaction in the industry this year is the $920 million pass-through certificate issue by Dynegy, which closed in May 2001. The deal was a private placement led by Lehman Brothers and Bank of America. BoA also advised Dynegy on the acquisition. The bonds, issued by two trusts, back two plants in New York state bought from Niagara Mohawk, Consolidated Edison and Central Hudson Gas & Electric ? the 1200MW oil and gas-fired Roseton plant and the 500MW coal-fired Danskammer plant.

The notes were issued in two series, a $250 million bond due in 2010 with a coupon of 7.27% and a 2018 issue of $550 million with a 7.67% coupon. The lease equity portion was $119.6 million and, although the provider has never been identified, bankers think it to have been GE Capital. The two plants were subject to separate sale/lease backs, with the funds raised used to pay off inter-company borrowings.

The most recent deals have come with a corporate guarantee of lease payments, which provides for a more substantial presence on the parent's balance sheets. In fact, only Reliant and PPL went out without a corporate guarantee, and the Reliant deal attracted rival arranger criticism for its wide pricing. But most sponsors consider the balance-sheet trade-off to be worthwhile.

The other main deal before the last quarter of the year was a leveraged lease for the Williams/Kinder Morgan joint venture Triton Power, which was privately placed. Triton is a 550MW gas-fired plant under construction near Jackson, Michigan. Bankers believe the deal has been closed, although the lease debt may not have been fully lined up. The deal is estimated at $220 million.

The most recent deal is from Calpine, an $800 million structured lease obligation bond (SLOB) transaction to refinance recently completed gas-fired plants. Credit Suisse First Boston (CSFB) led the $654.5 million bond issue. The pass through certificates were issued in two tranches: a $454.5 million, 8.4% series ?A' certificate due 2012, and a $200 million, 9.825% series B certificates due 2019. Lease equity of $145 million came from Tyco Capital (formerly CIT).

One noticeable aspect of the deal is that it retires the non-recourse financing from plants developed by Calpine. Three plants are covered by the lease back ? Broadriver, a 850MW plant in South Carolina; Rockgen, a 520MW station in Wisconsin; and South Point, a 560MW plant located on Native American Indian land in Arizona. All three have been developed using Calpine's hybrid corporate development process, although they were not included in either of the sponsor's construction revolving credit facilities.

The first two plants are former SkyGen development properties that were funded for a second time by Crédit Lyonnais and CSFB in March 2001 as part of an expansion programme. SkyGen was bought by Calpine in October 2000, and has slowly been integrated into Calpine's operations. The $447 million financing on these will be retired ? while South Point, because of its location, is understood to be on balance sheet.

The decision to use leveraged leases is significant ? especially as it demonstrates that despite the frequent references by unregulated power companies to the need for financial flexibility, there are still few large sources of long-dated and tax-efficient funding for power assets. As one observer of developments in the leasing market says: ?In the end they still had to go for the leveraged lease option, even though it is still horrendously inflexible. Lease arrangers and investors often speak a very specific jargon, and their products aren't always appropriate for power companies.?

But the US downturn, as well as the disappearance of the stock analysts' previous favourites ? telecoms firms ? has not decreased the pressure on generators to post high earnings figures. Indeed, the current environment still encourages earnings-boosting manoeuvres. There has been little sign of a voice in the chorus of blame directed at regulators, politicians, auditors and management mentioning that Enron had been doing exactly what equity analysts wanted ? posting the highest EPS figures possible. One power specialist compared lessees to addicts, returning again and again to the market for another earnings high. In some instances a more appropriate analogy might be the infusion of red blood cells into an exhausted athlete.

But the leveraged lease has defenders, too. Dan Morash, head of project finance at Tyco Capital in New York, points out that there is ample liquidity in the lease debt market, and that the analyst community's demands are now a constant background for financing solutions. ?Everyone's earnings-driven these days, and they also like to obtain 35-year money. And the interesting thing is that most sponsors can sell assets subject to a sale/lease back provided the acquirer is strong enough,? he says. Corporate guarantees can assuage many of the doubts regarding the plants' market performance, meaning that operational flexibility is usually possible.

Lease arrangers are also optimistic about 2002. The next six months will see a slew of newly constructed plants come out of construction revolving credit facilities or emerging from sponsor balance sheets. While the last wave of SLOB financing took out maturing bridge facilities on older assets, forthcoming deals will be backed by state-of-the-art combined cycle gas plants located in deregulating markets ? very few of them with contractual support for output.

The pipeline of deals that were slated to close in 2001 was estimated at close to $6 billion, according to Morash. These new plants will bring with them their own risk profile, including some untested technology factors, since few of the new combined cycle generation plants have a long operating history. Moreover, these new plants operate without the benefit of transition contracts ? as most divested plants in less developed state and regional energy markets do.

The main doubt, therefore, is how this engineering plays on the corporate balance sheet. Enron's recent difficulties suggest that consensus is some way off. Whilst Enron has not recently been a large finance lease-user ? although its 1997 Sutton Bridge financing was rumoured to incorporate one ? it has held many of its turbines in synthetic lease warehouses. Enron's troubles illustrate, however, that balance sheet consolidation can be a fairly subjective judgement.

What this means for synthetic lease arrangers is still uncertain. What drives the most successful synthetic deals, as with the better-priced SLOB issues, is a healthy corporate credit rating. The main aim for the arrangers of turbine warehouses, for instance, has been to strip out as much as possible of the vestigial risk that is caused by compliance with accounting regulations.

Most sponsors and arrangers have become more than comfortable with the emerging issues taskforce (EITF) regulations on condemnation and real estate, and dealflow has been healthy for the past six months. Income from several of these vehicles has started to crop up on statements as agency fees. Some, such as Enron's $500 million Riogen warehouse, have even been syndicated. A few, having managed to maintain synthetic status through the use of the warehouse, have gone on to become single asset synthetic leases.

WestLB, one of the leaders in the creation of synthetic turbine warehouse, has moved on to alternative structures. The German bank had used its C98 branded product for a number of deals for power companies including Dynegy, El Paso and Southern Company. But according to John Ryan, managing director for contract-based structures at WestLB in New York, the task now is to make the structures as appetising to the corporate lending community as possible.

?The optimum way to syndicate these transactions is not to try and sell structural risk, but only the underlying corporate credit,? says Ryan. Typically, he says, this involves the use of credit-linked notes sold in the private placement market, to money market funds, amongst others. These issues typically add a small premium to deals above corporate lending, but a smaller one than might be added to a deal with EITF 97-10 risk ? where lenders must take the risk that a plant might be condemned, amongst other events) sold into the bank market.

Enron's collapse shows few signs of denting these trends ? so far. Ryan believes heightened scrutiny of corporate credits by ratings agencies could be a positive step towards re-establishing confidence in such structures. He adds in general that Enron's synthetic turbine vehicles ? Riogen included ? are holding up reasonably well. As for the future he says that, ?there will be heightened awareness and sensitivity to the potential abuse of complex structures post-Enron, and that's a good thing. Complex structures that have a clear benefit to a company's shareholders and debtholders will continue to be used.?

Deals can also incorporate a credit-linked revolver, where sponsors can adjust the size of the underlying structure. Southern Power recently closed a $125 million credit-linked revolver with WestLB as administrative agent, Crédit Lyonnais as collateral agent and Bank of Tokyo-Mitsubishi as syndication agent. Nevertheless Ryan's effort to pitch these deals to the corporate lending market is instructive. Such structures, like the continuing popularity of the leveraged lease, show how little generators can expect from the non- or limited-recourse bank lenders. The arrangers of both lease types are essentially looking at creating the successor to the mini-perm (five-year or under) construction financing.

Ryan is less positive about the long-term future for the synthetic turbine warehouse and believes that the market has settled down after a flurry of earnings-driven deals that characterized 1999. In his opinion the focus of power companies will be on ratings management, which may involve the restructuring and refinancing of existing synthetic leases. Given, the massive construction requirements of the new unregulated energy groups, which have scarcely been dented by recent events, distribution capability will be essential. So the lease bonds will be up against a continuation of the corporately structured generation paper that has dominated the market this year.

The main threat to synthetics, however, is that the underlying credit risk may still not be robust enough. If ratings agencies and accountants begin to start looking at off-balance sheet structures more aggressively, then much of the economic benefit would evaporate. And the threat to companies that actively engage in trading, particularly at the speculative end of the spectrum, will find themselves hit doubly. Not only might the use of trading arms as project off takers have a less beneficial effect upon a deal's creditworthiness, but parent financial guarantees will drag down note ratings. This would have a particular impact on institutions like Citibank that often funnel synthetic debt through its conduits. Indications are, for instance, that the PG&E bankruptcy affected the placement of some the NEG's La Paloma debt.