Introduction On May 4, 2020, the Federal Reserve Bank of New York (the “Federal Reserve”) released Frequently Asked Questions (the “FAQs”)1 regarding the Primary Market Corporate Credit Facility (“PMCCF”) program, providing greater detail and further clarification of its March 23, 2020 announcement establishing the PMCCF program and its April 9, 2020 release of an updated term sheet for the PMCCF.2 The FAQs provide additional guidance on a number of aspects of the PMCCF, although certain questions remain. More Details Released Regarding the Purpose and Operations of the PMCCF The FAQs address how the Federal Reserve envisions the PMCCF will function and operate. With regard to a start date, the PMCCF is expected to be operational shortly after the Secondary Market Corporate Credit Facility (“SMCCF”) begins purchasing eligible ETFs, which is scheduled to begin early this month. All participation in the capital markets by the Federal Reserve will be made using a single purpose vehicle (the “SPV”). The interaction between issuers and the SPV will be managed by a private investment manager. BlackRock Financial Markets Advisory will be the initial investment manager for the PMCCF. The investment management agreement is expected to be published before the launch of the PMCCF. Once the exigent need to commence operations of the PMCCF has been satisfied, the investment manager role will be subject to a competitive bidding process and additional investment managers may be appointed. In all cases, investment managers will operate at the sole discretion of the Federal Reserve, which will provide investment guidelines to the investment managers. In order to initiate a transaction where the PMCCF is the sole purchaser of a bond, issuers and their underwriters may approach the PMCCF via the investment manager. With respect to syndicated bond or loan issuances, after a transaction is announced and shown to prospective purchasers, in the event of insufficient demand (i.e., demand for less than all of the offering) the issuer and all leads on the syndication may approach the PMCCF via the investment manager and request the PMCCF’s participation for up to 25 percent (25%) of the offering. Although the FAQs clarify that there is not a minimum issuance amount and no minimum amount or percentage required for the PMCCF to participate, issuers are not expected to use the PMCCF to borrow small amounts or small percentages of the total deal. When purchasing portions of syndicated bond or loan issuances, the PMCCF’s participation is expected to be alongside other participants, at the same terms and price, and fluctuating market pricing will not be decreased for the purpose of decreasing demand from market participants. The only departure from the shared terms with other participants will be the 100 bps fee owed to the PMCCF at each new bond issuance or in connection with any syndicated loan purchase. Once operational, the Federal Reserve will publicly disclose information regarding the PMCCF during the term of the facility, including the identity of participants, transaction amounts, costs, revenues and other fees. Further, balance sheet items related to the SPV will be reported both on a weekly and on an aggregated basis. Who are Eligible Issuers – Guidance on U.S. Nexus The FAQs expand upon the initial eligibility criteria set forth in the term sheets, including how to evaluate whether an issuer has “significant operations in and a majority of its employees based in the United States.” This issuer eligibility standard derives from the statutory requirements of Title IV of the CARES Act, which places restrictions on the use of congressionally appropriated economic stabilization funds, including loans, loan guarantees and other investments made to programs and facilities established by the Board of Governors of the Federal Reserve System to provide liquidity to the financial system. Under Section 4003(c)(3)(C) of the CARES Act, Federal Reserve programs or facilities covered under Title IV of the CARES Act may only “purchase obligations or other interests (other than securities that are based on an index or that are based on a diversified pool of securities) from, or make loans or other advances to, businesses that are created or organized in the United States or under the laws of the United States and that have significant operations in and a majority of its employees based in the United States.” If an issuer is not a single purpose entity whose sole purpose is to issue debt, the Federal Reserve will evaluate the significant operations and majority of employees prong by consolidating such issuer with its subsidiaries (but not any parent company or sister affiliate). Examples of significant operations provided include having more than fifty percent (50%) of its consolidated assets in, annual consolidated net income generated in, annual consolidated net operating revenues generated in, or annual consolidated operating expenses (excluding interest expense and any other expenses associated with debt service) generated in the United States based on recent audited financial statements. If the issuer is a single purpose entity whose sole purpose is to issue debt, the evaluation shifts. Instead of evaluating the single purpose entity, the primary corporate beneficiary of the proceeds of the debt issuance is evaluated. A primary corporate beneficiary must have significant operations in and a majority of its employees based in the United States on a consolidated basis. A primary corporate beneficiary, in this context, includes a corporate affiliate of the proposed issuer that uses ninety-five percent (95%) or more of the proceeds from the issuance under the PMCCF for its operations, and if no one affiliate meets the ninety-five percent (95%) threshold, multiple affiliates with significant operations in and a majority of their employees based in the United States must, in the aggregate, receive ninety-five percent (95%) of the proceeds from the issuance. This clarification is important because it was not previously clear that a single purpose entity could be an eligible issuer under the PMCCF. The FAQs explicitly state that an eligible issuer may be a subsidiary of a foreign company so long as the issuer itself is created or organized in the United States or under the laws of the United States, and such issuer, on a consolidated basis, has significant operations in, and a majority of its employees based in, the United States. In this instance, the issuer must use the proceeds derived from the PMCCF only for its own benefit, the benefit of its consolidated U.S. subsidiaries, and the benefit of its other affiliates that are U.S. businesses, and not for the benefit of its foreign affiliates. For the avoidance of doubt, U.S. subsidiaries or U.S. branches of foreign banks are eligible issuers under the guidance. Additionally, the FAQs clarify two additional points with respect to issuer eligibility. First, for purposes of the issuer’s NRSRO rating, the Federal Reserve will initially accept ratings from three (3) NRSROs: S&P Global Ratings, Moody’s Investor Service Inc., and Fitch Ratings, Inc., although the FAQs note that the Federal Reserve is considering expanding this list. This limitation to only these three rating agencies seems to run counter to the program’s stated goal of expanding credit to businesses, as it prevents participation by any company that has hired one of the other six SEC approved NRSROs. This impact will disproportionately fall on smaller businesses that rely on the other NRSROs. It is worth stating that while the SEC approves NRSROs, it does not grade them or divide them into tiers. Second, for determining whether an issuer has received "specific support pursuant to the CARES Act,” the FAQs explain that this criterion is intended to cover specific support pursuant to section 4003(b)(1)-(3) of the CARES Act, which would include loans made to passenger air carriers, cargo air carriers and businesses critical to maintaining national security. An issuer will not be eligible for the PMCCF if it has received a loan, loan guarantee or other investment from the Treasury Department under these provisions of the CARES Act. Issuers will not be disqualified for taking advantage of tax credits or other tax relief granted pursuant to the CARES Act. Further, an issuer participating in the PMCCF may not also participate in any of the three facilities offered under the Main Street Lending Program, which represents efforts by the Federal Reserve to support lending to small and medium-sized businesses that had been in sound financial condition prior to the COVID-19 pandemic. The Main Street Lending Program differs from the PMCCF in several fundamental respects. First, while the PMCCF engages in capital market purchases of interests in individual bonds and loan syndications, the Main Street Lending Program provides direct loans to borrowing businesses at fixed terms. Second, as a program engaged in direct lending, the Main Street Lending Program is, as a matter of statutory requirement, subject to certain CARES Act restrictions on stock buybacks, dividend issuance and executive compensation that do not apply to the PMCCF. Businesses that are eligible to participate in both the PMCCF and the Main Street Lending Program should assess the suitability of each of these programs in view of their own business needs. We would note that the Term Asset-Backed Securities Loan Facility (“TALF”) program that was used in 2008 and is being reestablished now may provide a further avenue of liquidity for those portions of PMCCF eligible leveraged loans that are not financed using proceeds from the PMCCF. One of the requirements under the TALF program with respect to eligible securitizations (other than commercial mortgage backed securitizations) is that the underlying collateral be comprised of newly issued assets. At the moment what is considered “new issue” under TALF has not been defined, however, the non-PMCCF funded portion of a leveraged loan may be considered eligible new issue collateral for collateralized loan obligation (“CLO”) transactions that are in turn eligible issuers under the TALF program. Practically speaking, the economics will dictate whether or not CLOs can utilize PMCCF-related leveraged loans as collateral (particularly in regards to the TALF program) but, on the surface, it is possible that the PMCCF and TALF programs can be utilized by the market to provide broader liquidity than anticipated to certain segments of the leveraged loan market. What is an Eligible Asset A significant portion of the FAQs is dedicated to clarifying what types of assets will be eligible in the PMCCF. To be eligible, an asset must be issued by an eligible issuer and have a maturity of four years or less. Specifically, the FAQs provide the following new information:
- Privately placed corporate bonds issued pursuant to SEC Rule 144A are eligible.
- The PMCCF will generally only purchase fixed-rate assets, but to the extent that the PMCCF is approached to participate in a syndication of floating rate assets, the PMCCF will expect such debt to include adequate fallback language to the extent such debt is priced off LIBOR.
- Eligible issuers may request that the PMCCF refinance existing bonds and issue new bonds, so long as (i) such refinancing is requested up to three (3) months ahead of the maturity date of such outstanding debt, (ii) with respect to the issuance of additional debt, the issuer’s rating is reaffirmed at BB-/Ba3 or above by each major NRSRO that has rated such issuer, and (iii) after giving effect to such refinance or issuance of additional debt, the maximum amount of outstanding bonds and loans that such issuer borrows from the PMCCF may not exceed 130 percent (130%) of such issuer’s maximum outstanding bonds and loans on any day between March 22, 2019, and March 22, 2020. The 130% limit above will be calculated at the consolidated top-tier parent level of the issuer, if applicable, and includes current and non-current portions of corporate bonds and loans, drawn portions of "term loans," drawn portions of long-term "revolving facilities" (i.e., maturity greater than one year), and long-term bonds (whether USD denominated or otherwise), but excludes any operating leases, non-recourse debt, commercial paper, and other short-term liabilities.
- The PMCCF will only purchase bonds and loans denominated in USD. For the purposes of calculating the value of maximum bonds and loans outstanding, the value of non-USD denominated debt should be consistent with the issuer’s financial statements for periods ending between March 22, 2019, and March 22, 2020.
Potential Issues and Additional Questions
Although the FAQs touch on many of the open questions concerning how the PMCCF will operate, certain operational features remain unknown. As noted in the April 9 term sheet, issuers will need to make certain certifications, including whether the issuer is unable to secure adequate credit accommodations from other banking institutions or the capital markets. The FAQs touch briefly on the requirements for making such certifications, noting that “lack of adequate credit does not mean that no credit is available; instead, credit may be available, but at prices or on conditions that are inconsistent with a normal, well-functioning market.” As the PMCCF progresses, we anticipate new questions will arise around what exactly constitutes a “lack of adequate credit” and how issuers will get comfortable making this certification. In addition, as currently envisioned by the FAQs, there will be a single-name concentration limit for each issuer using the PMCCF and the SMCCF. The Federal Reserve will impose a restriction whereby the maximum amount of instruments that the PMCCF and the SMCCF combined will purchase with respect to any one issuer is capped at 1.5 percent (1.5%) of the $750 billion combined potential size of the PMCCF and the SMCCF. Potential issues may arise, however, if an eligible issuer already has outstanding debt held by a third-party investor, and such outstanding debt is then sold into the SMCCF by such investor. Such sale would count towards the single-name concentration limit imposed across both the SMCCF and the PMCCF, thereby counting towards its participation cap and restricting that eligible issuer’s ability to issue debt pursuant to the PMCCF, through no fault of its own. Market participants will look to see if the Federal Reserve will clarify how the single-name concentration limits will work across the two facilities to avoid any unintended results. Further, while the FAQs have provided some additional clarity regarding the mechanics of the PMCCF, similar to the operational issues noted above, there are still mechanical issues that will need to be worked out in the coming weeks.