There are various methods of taming a bear market...
The credit crunch has spread from the debt markets to the global economy to the equity capital markets and we have entered what is likely to be the grizzliest bear market in decades. Corporate bond issuers across industries can anticipate experiencing reduced liquidity, pressure on financial covenants and in many cases the prospect of default, while many traditional means of refinancing have become unacceptably expensive where not completely unavailable.
Bond issuers with stressed or distressed bonds outstanding will need to weigh all available restructuring strategies and consider the legal ramifications of any restructuring strategy pursued. The optimal strategy will depend on the issuer’s financial situation and the capital and financing resources available to it, its specific strategic objectives, the type and terms of the bonds in question, the disposition of the bondholder base and applicable laws and regulations.
We briefly summarise a number of the basic methods employed in bond restructuring transactions, any of which can be customized to an issuer’s specific circumstances.
All-Cash Tender Offers
A cash tender offer is an offer by an issuer to purchase all or a specified portion of an existing issue of bonds. Cash tender offers are typically used where the bonds to be repurchased are not callable by their terms or where the issuer believes it can purchase the bonds for an amount lower than the redemption price, for example, where the bonds are trading at a discount. Naturally, the issuer must have the necessary cash resources available to pay for the tendered bonds in order to pursue a cash tender offer.
A cash tender offer is generally extended to all holders of the bonds, though it is possible to exclude holders located in certain jurisdictions. The issuer will typically appoint an investment bank to act as dealer-manager to oversee the tender process and serve as the primary go-between with bondholders. In most European jurisdictions there are few rules prescribing the manner in which the offer must be conducted or the length of time that the offer must remain open, although this is not the case in certain contexts where the tender offer is extended into the United States. However, the length of the tender offer period will be set with the objective of ensuring adequate time for a maximum number of bondholders to accept the offer while minimising the risk to the issuer of bondholders subsequently withdrawing acceptances (for example, as a result of changes in the economy, interest rates or market sentiment).
Tender offers are conducted by disseminating to the bondholders an offer document describing the purpose and terms of the offer and the procedures to be followed in order to accept the offer. The offer will be subject to a number of conditions, such as that more than a certain proportion of bonds are validly tendered. The issuer typically reserves the right to amend (e.g., in order to increase the offer price if insufficient interest is shown at the initial offer price) or to terminate the offer (e.g., where an insufficient number of bondholders tender) at any time. In addition, the tender offer terms will usually require the issuer to extend the deadline for acceptances, or to permit the withdrawal of acceptances, if it makes material amendments to the terms of the offer that could adversely impact the bondholders.
There are a number of variations on the basic tender offer structure that an issuer can utilise depending on its specific objective. We discuss a few of these variations opposite:
Exit Consent Solicitations
A tender offer can be conducted in parallel with the issuer requesting bondholders’ consent to amendments to certain of the terms of the bonds. In order for bondholders to accept the tender offer they must also vote in favour of the proposed amendments. For example, an issuer may seek to amend the bond terms by “stripping” all restrictive covenants from the trust deed or to include an early redemption option that would enable the issuer to call any bonds not tendered in the offer. An exit consent solicitation ensures that, provided the requisite proportion of bondholders accept the tender offer, the terms of any bonds that remain outstanding will be amended. Exit consent solicitations are a means of incentivizing bondholders to accept the offer, because bondholders that do not accept would hold an illiquid investment with no or limited protective covenants.
Early Tender Premiums
A tender offer involving a consent solicitation can be coupled with an early tender premium whereby bondholders accepting the tender offer within a set time period early in the tender offer period receive an additional payment (attributable to consenting to the proposed amendments) above the purchase price for the bonds, whereas bondholders who fail to tender in the prescribed period only receive the bond purchase price. Offering an early tender premium is another means of incentivizing bondholders to accept a tender offer.
Fixed Spread Tender Offers
A fixed spread tender offer is one in which the bond purchase price is determined by reference to the yield-to-maturity of a specific government security plus a fixed spread (e.g., 50 basis points). Setting the purchase price based on a fixed spread, as opposed to a fixed price, allows the purchase price to float with changes in interest rates until a few days before the actual purchase date and thereby helps to avoid an issuer paying too much (or too little) for the bonds.
Dutch Auction Tender Offers
In a “Dutch auction” tender offer, the bondholders effectively determine the bond purchase price rather than the bidder. In a “pure” Dutch auction, the bidder invites the bondholders to tender their bonds within a specified price range and tenders are accepted, beginning with those for which the lowest price has been specified, until the bidder has purchased the desired number of bonds, with the result that bonds are purchased at multiple prices. In a “modified” Dutch auction, the bond purchase price is determined based on the lowest price that allows the bidder to buy the number of bonds sought in the offer and the bidder pays that price to all bondholders that tendered at or below that price on a pro rata basis. The type of Dutch auction that may be utilized will depend on the type of bond that is the subject of the tender offer and the jurisdictions into which the tender offer is to be extended. A Dutch auction tender offer may be attractive to bidder’s that need to repurchase bonds quickly because it avoids potential time delays resulting from the need for the bidder to determine an acceptable purchaser price.
Partial Tender Offers
A “partial” tender offer is a tender offer for less than all of the outstanding bonds. This type of tender offer is common where a financially troubled issuer is attempting to reduce debt by offering to repurchase bonds at a discount but is subject to funding constraints which prevents it from offering to purchase all the outstanding bonds.
In conducting a tender offer of any type, a wide array of legal restrictions will need to be observed, including applicable contractual terms, stock exchange requirements, the corporate and securities laws of the issuer’s jurisdiction of incorporation, in certain instances the securities laws of the bondholders’ jurisdictions, and applicable tax law. The rules of relevant bond clearing systems and how the tender offer will be treated for accounting purposes will also need to be considered.
In an exchange offer, the issuer offers to exchange existing bonds for new bonds with modified terms, or in some cases, shares. Exchange offers are an attractive option when the issuer does not have the cash resources available to fund a cash tender offer or open market buy backs. Exchange offers raise a number of difficult legal issues in addition to those that apply to a tender offer and because a new security is being offered the securities laws of the applicable jurisdictions must be complied with.
Open Market Bond Buy-Back Programmes
In a bond buy-back programme the issuer enters into one or more individual contracts to purchase its bonds. Buy-back programmes are useful where an issuer wants to reduce its debt load but does not need to purchase all bonds or change the terms of the bonds. The issuer will appoint a broker to purchase bonds on its behalf and the purchase price will be determined based on negotiations between the broker (on behalf of the issuer) and the seller. Typically, the bond purchase price that an issuer can achieve when buying back bonds in the open market will be lower than the price it can achieve in a tender offer. It is essential that bond buy-back programmes be limited in size in order to avoid crossing materiality thresholds which would require public disclosure and issuers must be particularly aware of its potential liability in respect of market abuse and insider dealing.
Another means of an issuer modifying the terms of outstanding bonds where the objective is not to reduce outstanding debt is to solicit bondholders’ consents for approval of specific amendments to the terms of the bonds. Solicitations of bondholders’ consents may be coupled with a cash inducement or a favourable amendment to the bond’s payment terms. The process is governed by the terms of the bond trust deed, which will typically require that a bondholders’ meeting be called and prescribed notice periods be observed and will also determine the quorum and voting thresholds that must be satisfied. Minimal regulatory restrictions apply in the context of straight consent solicitations. However, it is often difficult to achieve the required quorums without the persuasive instrument of exit consents.