The Export-Import Bank of the United States Harvard Case Solution & Analysis

COSTS OF MAKING LOAN GUARANTEES

Federal Credit Reform Act 1990 required budget cost of federal credit programs to be valued on the net present value basis. EX-IM calculated subsidy of each transaction that was the difference between present value of expected outflows and expected cash inflows, at the time credit was granted. If expected cash inflows exceeded outflows, subsidy was negative, i.e. desirable. Outflows consisted of loan disbursement, direct loan expenses and estimated claim payments while inflows included fees, interest income and repayment of principal. All cash flows were discounted at the interest rate on marketable U.S. Treasury securities of similar maturities. Provisions for expected credit losses were made by taking into account probability of loss and potential loss amount.

EX-IM guaranteed loans issued by commercial banks for aircraft purchases but this source of finance was not as readily available in 2009. Financing for aircrafts for Emirates therefore required alternative funding arrangement. Emirates would set-up a special purpose company Amal Ltd. in Cayman Islands for the transaction that would buy the aircraft and lease to Emirates. Credit Agricole CIB would finance the sale from July until the delivery of final aircraft in September through EX-IM guaranteed loan at an agreed interest rate with back-stop facility that would require the bank to continue financing for 12 years in the event of failure to raise capital markets note by Amal Ltd. Upon delivery of final aircraft Amal would restate bank notes as capital market instrument and pay Credit Agricole CIB from new note proceeds.

Discount rate to be used for calculation of net present value of cash flows from EX-IM guarantee is calculated at Exhibit A. Risk free rate is 3.465% (Exhibit 6 and 12) and assuming the beta of the scheduled payments from Amal to Wells Fargo of 0.2 and market risk premium of 5%, computed discount rate is 4.5%. Expected cash flows from the guarantee consist of upfront exposure fee of $13.73 million and costs of guarantee are the expected loss of $4.5 million in year 4. These cash flows have net present value of $9.49 million (Exhibit B). Transaction has a negative subsidy of $9.9 million.

CONCLUSION

Guarantee of repayment on loan note by EX-IM for purchase of three Boeing 777 aircraft by Emirates would ensure availability of adequate finance for the deal to go through. In process EX-IM stands to earn significant transaction fee while providing an important boost for the aircraft manufacturing sector of United States. Emirates is a leading international airline and the purchase is likely to result in more aircraft orders in future. Overall risks of default on the notes are low as the transaction is structured in such a way that maximizes credit protection through establishment of a special purpose company, Amal Ltd in Cayman Island that offer strong creditor protection without additional taxes or significant related costs. Amal would purchase the aircraft, hold title and make interest and principal repayments through lease payments from Emirates. Financing deal is also attractive for Emirates as the coupon rate on the notes is low compared to aircraft loans by U.S carriers (Exhibit 13). Overall the opportunity is attractive with few downside risks and should be recommended by EX-IM’s president and Chairman Fred Hochberg...................................

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