Due to the challenging market conditions brought about by the Coronavirus pandemic, and perpetuated by uncertainty as to how central banks and other regulators may react, many issuers are faced with difficult decisions on how to manage ongoing debt repayment obligations.
Introduction
We consider below some of the liability management options that are available to issuers with respect to the restructuring of outstanding debt. Issuers of public and private debt may be able to take advantage of liability management techniques such as consent solicitations, exchange offers and/or tender offers to mitigate against the financial challenges brought about by the current downturn.
This article focuses on consent solicitations and exchange offers, as they do not require access to significant liquidity in the same way that tender offers or secondary market buybacks do. However, given the current market uncertainty, tender offers and buybacks should still be considered by issuers with access to sufficient cash reserves as they have the advantage of mitigating against longer-term market volatility and default risk.
Consent solicitation
The process of consent solicitation involves an issuer seeking the consent of its debtholders to a revision of the contractual terms governing the debt issue. Terms can be modified, for example, to navigate around potential events of default or covenant breaches, or to allow for the extension of the scheduled maturity date of debt by an issuer (beyond what is currently permitted under the debt documentation).
The proposed amendments and re-drafted documentation will be circulated to all debtholders for consideration within a specified time period. This proposal will then usually be subject to either (i) an extraordinary written resolution passed by the debtholders or (ii) a vote at a meeting of debtholders. In both cases, any resolution (once passed by a specified number of debtholders and subject to satisfaction of certain other applicable rules, including those relating to quorums of debtholders) will bind all debtholders to the proposed amendments to the documentation. The consent solicitation process can also, in certain circumstances, be applied to implement a mandatory exchange of debt. However, risks inherent to the mandatory exchange exercise (including the risk of litigation from a prejudiced minority debtholder) mean that the exchange offer process (explained below) is often preferable.
Through this process, an issuer can achieve more favourable contractual terms and a reduced debt liability or in the case of an extension to the maturity date, an extension of payment terms.
Care should be exercised when considering a consent solicitation as there are often trans-jurisdictional, regulatory, and stock exchange rules to be considered, particularly where the debt is publicly listed. Before undertaking a consent solicitation, an issuer must also ensure that the process will not trigger any contractual breach.
In particular, in the context of a consent solicitation in the United States, an amendment to terms may be considered to be tantamount to a new offering of securities. Where revised terms are treated as constituting an offering of new securities, the issuer would be subject to the considerable disclosure and other obligations relating to making an offer of securities in the Unites States.
Where an issuer of sukuk is considering initiating a consent solicitation that would potentially amend the periodic profit payable on the debt, there would also be knock-on amendments required to the underlying Islamic documentation (and certain other amendments may be required, depending on how the sukuk is structured).
Exchange offer
An issuer may also seek to make an offer to exchange some or all of its outstanding debt for new securities that would typically be issued on terms more favourable to the issuer. In these circumstances, an issuer may offer to exchange the existing debt instruments for new instruments that may have, for example, a lower interest or profit rate, but an extended tenor compared to the existing debt. Such an exchange will typically ease the repayment burden of the interest or profit payable.
It is worth noting that the exchange offer process requires the issuance of fresh debt (to be given to debtholders in exchange for the existing debt). This means that the rules and regulatory requirements relating to the offer and issue of securities will apply as usual. This will be more relevant in certain jurisdictions, such as the United States, where there are more onerous rules relating to the offering of securities, and should be factored into an issuer’s decision at the outset. An offering document must be prepared and the relevant listing (and clearing system, if applicable) rules will need to be observed in respect of the new debt.
An issuer of sukuk seeking to make an exchange offer should pay careful attention to the existing sukuk documentation. Such issuances are commonly conducted through a special purpose vehicle that will have undertaken not to take any action beyond what is specifically set out in the sukuk documentation. This means that technically, making the exchange offer could trigger a default. Further amendments would also likely be required to reconcile the profit payments with the underlying assets and to maintain the Shari’a compliance of the transaction.
Regulatory, tax and contractual considerations
The risks relating to executing a liability management transaction may not always be obvious and can have significant and long-lasting negative effects, should they materialise. These risks range from triggering a contractual breach to breaching market abuse or insider trading regulations (which, regardless of the relevant jurisdiction, tend to carry extremely strict penalties). Therefore, it is essential to seek legal advice prior to initiating any liability management process.
Simmons & Simmons
If you would like to hear more about liability management options available to issuers, please reach out to the contacts listed on this article.
