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tags: Risk assessments
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# Monetalis MIP6 - Collateral Onboarding Risk Evaluation

###### tags: Collateral Onboarding , Domain Work, risk-domain-work, monetalis

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**The RWF core unit recommends that Maker not onboard the Monetalis collateral as it presents significant, off-market risks to Maker across three key dimensions which are presented in detail in this report.**

* **Facility Risk**: Monetalis underperforms and Maker incurs a significant loss on its loan
* **Maker Reputation Risk**: counterparties do not want to do business with Maker due to negative publicity or concerns regarding Maker’s credit investment activities, Maker’s governance processes or overall DAI stability.
* **DAI Stability Risk**: the market views the collateral backing the DAI as risky due to significant weaknesses in its asset managers, assets and/or investment structures

## Proposed Parameters

Debt Ceiling: 0 DAI
Stability Fees: n/a
Min SPV CR: n/a
Min Vault CR: n/a
Min Vault Underlying CR: n/a
Liquidation Process: MIP21

## TABLE OF CONTENTS
1. Executive Summary
1. Proposed Structure & Economics
1. Risk Assessment Methodology
1. Facility Risk Assessment
1. Market Transaction Comparison
1. Investment Grade Standard
1. Arm’s Length Transaction Standard
1. Market Reputation Risk
1. DAI Stability Risk
1. Conclusion

## References
* [MIP6 Collateral Onboarding Application: Monetalis - Wholesale, Green Economy, Senior, Secure SME funding](https://forum.makerdao.com/t/mip6-collateral-onboarding-application-monetalis-wholesale-green-economy-senior-secure-sme-funding/11223)

## Executive Summary

Monetalis is a new manager, headed by [Allan Pedersen](https://www.linkedin.com/in/allanio/) and [Alessio Marinelli](https://www.linkedin.com/in/marinellialessio/), focused on lending to lenders in the UK SME market (wholesale lending). As per the [MIP-6 application](https://monetalismip6.brick.do/) submitted on the MakerDAO forum in October 2021, the group seeks to originate senior debt exposures from non-bank lenders collateralized primarily by real estate, equipment, vehicles, and receivables. Monetalis intends to position itself within an ESG mandate, sourcing both green and “greening” collateral. The business’ initial operations will be venture funded by a number of [investors](https://forum.makerdao.com/t/mip6-collateral-onboarding-application-monetalis-wholesale-green-economy-senior-secure-sme-funding/11223/25), some of whom are large MKR token holders.


## Proposed Structure & Economics

Monetalis has requested a MakerDAO vault with an initial debt ceiling of **400MM DAI**. The initial MIP-6 application provisions for two tiers of compensation to MakerDAO:
1. Principal + Interest (Stability Fee)
2. A 50% share of profits net of Monetalis’ operating fee (.5%) and portfolio operating costs (legal, administrative, audit, accounting, etc)

In addressing alignment, Messrs Pedersen and Marinelli intend to pledge “100% of the founder’s shares in Monetalis, valued as of the most recent fund-raise”.

Monetalis would originate revolving credit facilities, block discount facilities, and forward flow facilities with a maximum duration of 36 months. Monetalis would fund up to 85% of end-borrower loan receivables. It targets a gross yield of the stability fee + 2% net of losses. As per the initial MIP-6, the group put forth a maximum exposure by collateral type of:
* 60% property, 40% clean transport assets, 10% equipment, 15% soft assert, 15% other

If the vault were approved, the group would seek an upsize in order to meet its goal of 1 Billion GBP in cumulative originations within the first year.

## Risk Assessment Methodology

The RWF core unit assessed the Monetalis Proposal (“Proposal”) and focused on three key risks: **Facility Risk, Maker Reputation Risk and DAI Stability Risk**. Facility Risk is the risk that Monetalis underperforms and Maker incurs a significant loss on its facility. Maker Reputation Risk is the risk that counterparties do not want to do business with Maker due to negative publicity or concerns regarding Maker’s investment activities, Maker’s governance processes or overall DAI stability. DAI Stability Risk is the risk that the market views the collateral backing the DAI as risky due to significant weaknesses in its asset managers, assets and/or investment structures. These three risk categories combine to inform the risk to MKR token holders, who A) will backstop protocol losses in the case that there are any or B) benefit from sustainable and responsible scaling of DAI.

In assessing the Facility Risk in the Proposal, the RWF core unit reviewed the asset manager (Monetalis), the assets targeted, and the Proposal structure following the [Methodology for Review of MIP6 Structured Finance Transactions](https://forum.makerdao.com/t/methodology-for-review-of-mip6-structured-finance-transactions/12697). In this process RWF also viewed the Proposal through several key standards: the [Investment Grade Standard](https://forum.makerdao.com/t/informal-poll-rwf-collateral-risk-level/12254), the market transaction comparison, and the Arms Length Transaction standard. The results of this analysis provided key guidance on potential DAI Stability Risk present in the Proposal.

Investment Grade risk is defined as being highly likely to repay the loan with timely interest and principal. Historically Investment Grade debt has averaged less than 1% default annually. Market comparisons focus on the key risks, lender protections and expected returns of the Proposal as compared to similar market transactions. An Arm’s Length Transaction is where parties agree to do business, acting independently and in their own interests. RWF reviewed the Proposal, asking *would this be funded in the real world? And if it would not be funded at the current terms, what terms could the Proposal be funded at?*

## Facility Risk Assessment

As noted above, RWF assessed Facility Risk in the Proposal, covering Manager Risk, Asset Risk and Structural Risk. Significant deficiencies in any of these three areas would cause a senior loan in the structure to be non-Investment Grade.

### Facility Risk Assessment: Manager

The RWF assessment discovered several significant weaknesses in the Monetalis platform.

* Monetalis’ principals lack experience as credit fund managers as compared to their competitors. Neither one appears to have experience as a private credit investor in asset finance nor any track record in the field. Table One below shows that the senior investment managers at Monetalis’ competitors average over fifteen years in private credit investing. RWF research has also indicated that first time credit fund managers usually cannot raise investment capital without significant experience in the field with a credible track record.

**Table 1**


* Monetalis is a startup asset manager that has not originated any assets to date. As such they will need to build out and scale their platform quickly and hire personnel across all key functions, including sourcing, underwriting, portfolio management, compliance, reporting, audit and finance/accounting. This creates scaling risk for a Facility as Monetalis may struggle to consistently source, underwrite and manage their investments given their aggressive growth goals.
* Monetalis is not profitable yet and is thinly capitalized, likely requiring additional equity funding before reaching profitability. Funding uncertainty could impact Monetalis’ ability to underwrite or manage its investments.
* Monetalis has an unproven business model with low expected unit economics/returns. Maker would earn approximately a 2.5% stability fee if all of Monetalis' assumptions are accurate, including no losses on their investments. As discussed later, this is a relatively low return given the significant risks in the Proposal.

**Table 2**


### Facility Risk Assessment: Asset

RWF believes that there are several notable risks in Monetalis’ asset selection strategy.

* Monetalis is a new entrant in a competitive, relationship-based UK, SME lending market with larger, better established players, including banks. RWF discussions with active UK SME lenders has also indicated Green financing is particularly competitive, relationship driven and accessible primarily to lenders who have consistently originated vanilla non-green deals. Given that Monetalis is an unproven, new entrant, it may have to overpay and/or risk up to win green financing volume in line with its growth targets.
* Monetalis is also focused on financing relatively small lending platforms (£15MM-30MM deals). These deals can generally not be structured to investment grade standards due to deficiencies in key areas such as management, underwriting, servicing, sourcing, technology, compliance, and liquidity. Thus, Monetalis would likely need to add significant credit enhancement under the Maker Facility to make it an investment grade.

### Facility Risk Assessment: Structure

RWF assessed the facility risk in the Proposal and discovered several significant risks.

* Monetalis is not providing a facility-wide credit enhancement for the Facility, creating the risk that a loss in any investment would cause a loss in the Facility.
* Given that Maker does not have an existing portfolio, the Facility would face higher credit risk during the ramp-up due to large concentrations in a few investments, even if there were facility-wide credit enhancement.
* The Proposal has loose credit guidelines, allowing up to 60% real estate concentration and no limits on non-amortizing loans. Note that most commercial real estate loans do not amortize a significant portion of their principal over Monetalis’ investment horizon. As such the Facility can be significantly exposed to refinancing risk in its real estate investments.
* The Proposal has not included a hedging strategy yet, which is essential given that Monetalis plans to borrow DAI but invest in pounds (£). It is likely that hedging will require additional capital and lower the yield on the Monetalis investment portfolio.
* Though the 400MM debt ceiling ask is quite large, it seems that Monetalis’ principals will pledge only founders shares as alignment. No cash equity will be invested alongside MakerDAO’s vault proceeds in the wholesale facilities.

## Market Transaction Comparison

RWF has spoken with experienced UK private credit managers and gleaned the key terms on which they are currently financing their asset-focused portfolios. In addition, RWF has been engaged by a multi-billion dollar US based private credit fund and gathered the same terms which are both compared to Monetalis below in Table 3 below. Note that the expected yields are based on January information. We also provide additional comparisons between experienced UK and US credit funds and Monetalis in Tables 4-6 following.

* Though Monetalis offers a relatively higher expected yield, it provides no facility-wide credit support while both the UK and US credit funds provide significant credit enhancement, ranging from 15-20%, substantially reducing the risk to the proposed Facility.
* Both the UK and US credit funds also have existing portfolios and have 15% maximum borrower concentrations as compared to Monetalis that would likely take months before being able to build a diversified enough portfolio to meet its 10% limit.

**Table 3**

| | Monetalis | UK Funds | US Fund |
| --------------------------- | --------- | -------- | ------- |
| Maker yield | 2.5% | 1.25% | 2.0% |
| Facility Credit Enhancement | 0% | 15% | 20% |
| Max borrower concentration | 10% | 15% | 15% |

* The experienced UK credit funds and the US credit fund offer significantly lower risk across the range of risk categories, particularly in both Manager Risk and Structure Risk as depicted in Tables 4-6 below.

**Table 4**

| Manager Risk | Monetalis | UK Funds | US Fund |
| ------------------------------ | --------- | -------- | ------- |
| Inexperienced credit manager | Y | N | N |
| Solid performance track record | N | Y | Y |
| Startup /scaling risk | Y | N | N |
| Not profitable | Y | N | N |
| Unproven business | Y | N | N |

**Table 5**

| Asset Risk | Monetalis | UK Funds | US Fund |
| ------------------------------ | --------- | -------- | ------- |
| Competitive SME market | Y | Y | Y |
| Existing lending relationships | N | Y | Y |
| May need to risk up | Y | N | N |

**Table 6**

| Structure Risk | Monetalis | UK Funds | US Fund |
| --------------------------- | --------- | -------- | ------- |
| Facility credit enhancement | N | Y | Y |
| Lumpy exposure in ramp up | Y | N | N |
| Loose credit guidelines | Y | N | N |
| Currency hedging | Y | Y | N |

## Investment Grade Standard

A senior lending facility to the experienced UK credit funds and the US credit fund at the terms listed in Table 3 are arguably Investment Grade, given their solid business models noted in Tables 4-6. A senior facility to Monetalis, however, would not qualify as Investment Grade as it has many significant deficiencies in its business model as noted in the same tables: inexperienced private credit managers, not providing significant facility-wide credit enhancement, and start-up business with potentially substantial scaling risk. Overall these comparisons demonstrate that there is substantially higher Facility Risk in providing a senior Facility to Monetalis than to experienced UK and US private credit funds.

## Arm’s Length Transaction Standard

RWA has had discussions with experienced UK credit funds on what is typically required for a credit manager to be able to raise a $400MM revolving senior loan facility for private credit assets. Managers are expected to be as follows:
Have significant credit investing experience with a credit track record
* Have an existing credit portfolio sufficient to utilize a substantial portion of the proposed facility
* Have an asset management platform already operating at scale covering key functions
* Provide significant facility-wide credit support
* Be profitable or have significant liquidity

Given that Monetalis does not currently meet these key requirements, market participants would likely view Maker funding Monetalis at the proposed terms as significantly off-market and not an Arm’s Length Transaction where an Arm’s Length Transaction is a transaction where parties agree to do business, acting independently and in their own interests Thus **we also view the Monetalis as not investable in the real world**, other than by family and friends.

## Maker Reputation Risk

RWF is building a strong pipeline of high quality asset investors such as SocGen, a 150 year old Atlantic regional bank, a big Asia-Pacific Commercial Bank, and a top ten multi-billion dollar US credit fund…… We are also engaging in discussions with leading asset managers who have expressed interest in managing a MakerDAO bond liquidity fund, including Blackrock, PIMCO, Fidelity and Goldman Sachs Asset Management. Firms of unprecedented caliber (for Maker)are definitely interested in doing business with the protocol but are also diligencing Maker currently and concerned about incurring some reputational risk by associating with DeFi.


These firms need to see that Maker has robust credit investment and governance policies in place and that they work. Substantial public disagreement over key investment and governance policies at Maker would likely cause many of them to disengage with Maker.

RWF, Growth, CES, SES, the delegates and other core units have worked hard to count the aforementioned institutions as prospective counterparties in the MakerDAO RWA pipeline. This level of quality marks a new frontier for the protocol and would have been completely unachievable even three months ago. It is thus important to consider each RWA opportunity, including Monetalis, not just from a Value-at-Risk (VaR) perspective but also from a signaling perspective. Does onboarding Monetalis send a signal to blue-chip, institutional asset managers that the protocol does not make untenable compromises and instead operates under rigorous standards? We’d argue that the opportunity to partner with strong, incumbent asset managers will dry up if the protocol continues to onboard unfit emerging managers and put hundreds of millions of DAI at risk.

## DAI Stability Risk

As noted already, DAI Stability Risk is the risk that the market views the collateral backing the DAI as risky due to significant weaknesses in its asset managers, assets and/or investment structures. Given that the Proposal is sizable ($400MM) and arguably both non-Investment Grade and not an Arm’s Length Transaction, the **RWF believes that the Proposal presents significant DAI Stability Risk to Maker** which we detail below.

* The market may question the stability of the DAI if Maker invests significant funds in *risky, non-Investment Grade assets*, including the $400MM Monetalis Proposal.
* The market may question the stability of the DAI if Maker invests *significant funds in non-Arm’s Length Transactions*, including the $400MM Monetalis Proposal.
* The market may question the stability of the DAI *due to conflicts of interest in Maker’s governance decision* process to fund Monetalis as the Monetalis venture is equity funded by investors who own significant MKR positions, creating a conflict of interest if they vote on Maker-Monetalis funding decision. One typical way to mitigate this key risk would be having any MKR holders financially backing Monetalis recuse themselves from all Maker-Monetalis governance actions

## Conclusion

The RWF core unit recommends that Maker **not onboard the Monetalis collateral** as it presents significant, off-market risks to Maker in three key dimensions: Facility Risk, Maker Reputation Risk and DAI Stability Risk.