On September 1, 2016, the US Securities and Exchange Commission (SEC) issued a no-action letter to Sancus Capital Management LP stating that the proposed “applicable margin reset” in a collateralized loan obligation transaction (CLO) effected using certain AMR procedures described in the related incoming letter would not constitute an “offer and sale of asset-backed securities by an issuing entity” within the meaning of Regulation RR (17 CFR Part 246).
The applicable margin reset (or AMR) procedures described in the incoming letter include a reverse Dutch auction occurring on certain dates (each, an AMR date) at predetermined intervals after the CLO closing, up to a specified maximum number of such AMR dates such that the AMR procedures would not be applied to any class of CLO securities more than two or three times over the life of the related CLO.
The incoming letter also stated that the occurrence of an AMR date could also be subject to certain objective conditions precedent, including suggested standard conditions such as the absence of an event of default under the CLO indenture, economic conditions evidenced by publicly observable economic or market indicators, the CLO trustee having received an opinion of counsel to the effect that the AMR will not cause certain adverse tax consequences, or a proposed “settlement agent” having received confirmation from at least three broker-dealers of their intent to submit bids in the AMR, each of which conditions will be set forth in the initial offering documents for the CLO securities. Importantly, none of the CLO issuer, the CLO manager, the holders of any CLO securities, or any other party, would have any discretion to call for or cause an AMR date to occur, and as long as the conditions precedent to an AMR date set forth in the offering documents are satisfied, no such party would have any discretion to cancel the occurrence of an AMR date.
The relief afforded by the no-action letter will be limited by these and other requirements included in the incoming letter. The requirement that a description of the AMR procedure be included in the initial offering document (including a required prominent statement on the cover of such offering document or elsewhere and a section titled “Applicable Margin Reset Procedures”) may not permit existing or legacy CLOs to be supplemented to meet this requirement. The limited number of AMR dates and the lack of investor or manager discretion to trigger an AMR may temper enthusiasm for the required AMR procedures. Also, the incoming letter included detailed specific requirements for the related reverse auction—including the involvement of auction and settlement agents, whose fees and expenses would be payable by the related CLO whether or not the AMR was successful—that may reduce the appeal of the AMR procedures/no-action relief.
Notwithstanding such limitations, the no-action relief is the most recent evidence that, for appropriate cases, the SEC is willing to clarify risk retention and related requirements. Given the many risk retention-related questions being raised by CLO market participants, this can only be viewed as a positive development.