JP Morgan Chase 2008 Annual Report Download - page 191

JPMorgan Chase & Co./ 2008 Annual Report 189
Note 17 – Variable interest entities
Refer to Note 1 on page 134 of this Annual Report for a further
description of JPMorgan Chase’s policies regarding consolidation of
variable interest entities.
JPMorgan Chase’s principal involvement with VIEs occurs in the fol-
lowing business segments:
• Investment Bank: Utilizes VIEs to assist clients in accessing the
financial markets in a cost-efficient manner. IB is involved with
VIEs through multi-seller conduits and for investor intermedia-
tion purposes, as discussed below. IB also securitizes loans
through QSPEs, to create asset-backed securities, as further dis-
cussed in Note 16 on pages 180–188 of this Annual Report.
• Asset Management (“AM”): Provides investment management
services to a limited number of the Firm’s funds deemed VIEs.
AM earns a fixed fee based upon assets managed; the fee varies
with each fund’s investment objective and is competitively
priced. For the limited number of funds that qualify as VIEs, AM’s
relationships with such funds are not considered significant vari-
able interests under FIN 46(R).
• Treasury & Securities Services: Provides services to a number of
VIEs that are similar to those provided to non-VIEs. TSS earns
market-based fees for the services it provides. The relationships
resulting from TSS’ services are not considered to be significant
variable interests under FIN 46(R).
• Commercial Banking (“CB”): Utilizes VIEs to assist clients in
accessing the financial markets in a cost-efficient manner. This is
often accomplished through the use of products similar to those
offered in IB. CB may assist in the structuring and/or ongoing
administration of these VIEs and may provide liquidity, letters of
credit and/or derivative instruments in support of the VIE. The
relationships resulting from CB’s services are not considered to
be significant variable interests under FIN 46(R).
• Corporate/Private Equity: Corporate utilizes VIEs to issue guaran-
teed capital debt securities. See Note 23 on page 203 for further
information. The Private Equity business, also included in
Corporate, may be involved with entities that could be deemed
VIEs. Private equity activities are accounted for in accordance with
the AICPA Audit and Accounting Guide
Investment Companies (the
“Guide”). In June 2007, the AICPA issued SOP 07-1, which pro-
vides guidance for determining whether an entity is within the
scope of the Guide, and therefore qualifies to use the Guide’s spe-
cialized accounting principles (referred to as “investment company
accounting”). In May 2007, the FASB issued FSP FIN 46(R)-7,
which amends FIN 46(R) to permanently exempt entities within the
scope of the Guide from applying the provisions of FIN 46(R) to
their investments. In February 2008, the FASB agreed to an indefi-
nite delay of the effective date of SOP 07-1 in order to address
implementation issues, which effectively delays FSP FIN 46(R)-7 as
well for those companies, such as the Firm, that have not adopted
SOP 07-1. Had FIN 46(R) been applied to VIEs subject to this
deferral, the impact would have been immaterial to the Firm’s con-
solidated financial statements as of December 31, 2008.
As noted above, IB is predominantly involved with multi-seller con-
duits and VIEs associated with investor intermediation activities.These
nonconsolidated VIEs that are sponsored by JPMorgan Chase are dis-
cussed below. The Firm considers a “sponsored” VIE to include any
entity where: (1) JPMorgan Chase is the principal beneficiary of the
structure; (2) the VIE is used by JPMorgan Chase to securitize Firm
assets; (3) the VIE issues financial instruments associated with the
JPMorgan Chase brand name; or (4) the entity is a JPMorgan Chase
administered ABCP conduit.
Multi-seller conduits
Funding and liquidity
The Firm is an active participant in the asset-backed securities busi-
ness, and it helps customers meet their financing needs by providing
access to the commercial paper markets through VIEs known as multi-
seller conduits. Multi-seller conduit entities are separate bankruptcy-
remote entities that purchase interests in, and make loans secured by,
pools of receivables and other financial assets pursuant to agree-
ments with customers of the Firm. The conduits fund their purchases
and loans through the issuance of highly rated commercial paper to
third-party investors. The primary source of repayment of the commer-
cial paper is the cash flow from the pools of assets. In most instances,
the assets are structured with deal-specific credit enhancements pro-
vided by the customers (i.e., sellers) to the conduits or other third par-
ties. Deal-specific credit enhancements are generally structured to
cover a multiple of historical losses expected on the pool of assets,
and are typically in the form of overcollateralization provided by the
seller, but also may include any combination of the following:
recourse to the seller or originator, cash collateral accounts, letters of
credit, excess spread, retention of subordinated interests or third-party
guarantees. The deal-specific credit enhancements mitigate the Firm’s
potential losses on its agreements with the conduits.
JPMorgan Chase receives fees related to the structuring of multi-
seller conduit transactions and compensation from the multi-seller
conduits for its role as administrative agent, liquidity provider, and
provider of program-wide credit enhancement.
As a means of ensuring timely repayment of the commercial paper,
each asset pool financed by the conduits has a minimum 100%
deal-specific liquidity facility associated with it. Deal-specific liquidi-
ty facilities are the primary source of liquidity support for the con-
duits. The deal-specific liquidity facilities are typically in the form of
asset purchase agreements and generally structured so the liquidity
that will be provided by the Firm as liquidity provider will be effect-
ed by the Firm purchasing, or lending against, a pool of nondefault-
ed, performing assets.
The conduit’s administrative agent can require the liquidity provider
to perform under its asset purchase agreement with the conduit at
any time. These agreements may cause the liquidity provider, includ-
ing the Firm, to purchase an asset from the conduit at an amount
above the asset’s then current fair value – in effect providing a
guarantee of the initial value of the reference asset as of the date of
the agreement. In limited circumstances, the Firm may provide
unconditional liquidity.