In light of continued negative macroeconomic trends—including but not limited to meaningfully higher global inflation, tightening monetary policy by central banks, volatile energy prices, slowing consumption, continued supply chain issues and geopolitical conflicts—global financial markets have been adversely impacted in 2022. Trading prices for many debt securities and bank loans have fallen significantly as market expectations have adjusted. This volatility in secondary markets may present an attractive opportunity for companies and, in the private equity space, their sponsors to repurchase outstanding debt and de-lever at a significant discount.
This client alert highlights certain key issues companies should generally consider with respect to potential debt buybacks and related amendment/liability management exercises.
As always, it is imperative that companies consult their legal counsel and review their debt agreements to determine whether any contemplated liability management transaction is permitted. Credit agreements will often limit the ability of a company to buy back or otherwise prepay junior debt, which could include junior lien, unsecured and/or subordinated debt depending on the particular terms of the agreement, and may require pro rata prepayments of obligations under such agreements in connection with the prepayment of other debt. Likewise, high-yield bond indentures generally restrict an issuer’s ability to prepay subordinated debt. Investment covenants in both credit agreements and indentures may also be implicated (depending on the particular definition and who the issuers and purchasers of the debt are). In addition, any new debt or liens incurred must comply with any existing limitations unless amendments or waivers are obtained.
Open Market Purchases and Privately Negotiated Transactions
Companies looking to repurchase their bonds in the open market must abide by applicable U.S. securities laws, including anti-fraud provisions. Companies (and their affiliates) should not repurchase their bonds when in possession of material non-public information. Among other things, companies should consult their insider trading policies and associated trading blackout periods when considering a bond repurchase.
Companies should also consider whether the repurchase itself or the source of funds used to execute it give rise to any disclosure obligations. There may also be Regulation FD-type selective disclosure considerations for companies engaging in privately negotiated repurchases.
Furthermore, companies must ensure that any repurchases do not constitute a “tender offer” that is subject to specific rules under the U.S. federal securities laws. If any repurchases were found to constitute a “tender offer” and were conducted without complying with applicable tender offer rules, a company may risk monetary damages, injunctive relief and SEC enforcement. When evaluating whether certain repurchases may constitute a tender offer, factors to consider include: the amount of bonds being repurchased, the number and sophistication of holders solicited, the manner by which the holders are solicited and the terms of the repurchase. For open market repurchases, limiting the principal amount of bonds repurchased in any quarter is prudent, whereas a greater number of bonds may be repurchased privately in transactions negotiated separately with a more limited number of sophisticated holders. Market participants use various rules of thumb to determine whether repurchases may be considered a tender offer, such as repurchases below a set percentage of the aggregate principal amount of bonds outstanding or from holders that do not exceed a set number, but every situation requires careful analysis based on the particular facts and circumstances.
Debt Tender and Exchange Offers
Debt tender and exchange offers allow issuers to buy back or exchange all or a portion of a series of debt securities from holders at large, subject to compliance with U.S. securities laws. Debt tender and exchange offers may be coupled with a consent solicitation to incentivize participation in the offer and obtain covenant relief.
Debt Tender Offers. Cash tender offers for non-convertible debt securities do not require the filing of a registration statement or SEC review, but are subject to certain SEC rules. Generally, the offer must be open for at least 20 business days, and holders must be paid “promptly” following the expiration of the offer. Certain changes to the terms of the offer (e.g., an increase or decrease in the percentage of securities being sought or the price being offered) will generally require that the offer remain open for at least ten more business days (potentially necessitating an extension) and corresponding public announcement. An SEC no-action letter permits abbreviated five-business day tender offers for non-convertible debt securities so long as certain conditions are met.
Companies have a great deal of flexibility in structuring the terms of a debt tender offer, including offering an “early tender” premium for holders that tender their bonds early in the offer, offering to purchase multiple series of notes in a single tender offer using a “waterfall” structure, “Dutch Auction”-style pricing and variations in the amounts of notes sought and the price being paid. Some of this structuring flexibility is not available in the abbreviated five-business day tender offers mentioned above. Tender offers require limited documentation, and companies can typically launch and execute them quite quickly.
Debt Exchange Offers. Exchange offers may involve a debt-for-equity exchange or debt-for-debt exchange. Unlike cash tender offers, exchange offers involve a new issue of securities and, thus, will require either SEC registration of the new securities or an exemption from registration. Public companies wishing to exchange debt for freely tradable shares of common stock or new registered debt securities will need to go through the SEC registration process, which may be lengthy and unpredictable. As a result, exchange offers are typically limited to institutional investors and non-U.S. persons that qualify for an exemption from SEC registration; however, this limitation may not be practical if a significant portion of the relevant debt securities is held by retail investors. If the exchange offer includes a consent solicitation to amend the terms of the old debt securities (as discussed below), it may also make limiting the exchange offer to certain classes of the existing investors more complicated. Companies are sometimes able to take advantage of Sections 3(a)(9) and 3(a)(10) of the Securities Act of 1933, which permit exchanges without registration in limited circumstances.
In addition to these SEC registration and exemption considerations, exchange offers are subject to the same SEC tender offer rules as cash debt tender offers, including a minimum 20-business day offer period (with the ability to execute a five-business day exchange offer subject to certain conditions), and have similar flexibility in terms of pricing and structure. Companies looking to launch an exchange offer should allow for additional time, however, even if the offer does not require SEC registration and review. This is because the offer will require a disclosure document (similar to an offering memorandum for a Rule 144A bond offering) and, if a bank is engaged to act as a dealer manager to help with the exchange, additional due diligence, legal opinions and negative assurance letters, and auditor comfort letters.
A consent solicitation is the customary method for obtaining the approval of holders of debt securities for waivers and amendments to the terms of their securities. Most covenants can be amended with the consent of the holders of bonds representing a majority of the outstanding principal amount, but changes to economic or other fundamental terms (e.g., principal amount, interest rate, interest payment dates and maturity, among others) typically require the consent of each affected holder under the relevant documentation. Indentures often disregard bonds held by the issuer and its affiliates when determining whether the requisite principal amount of bonds to effect an amendment have been received.
Consent solicitations are generally conducted either in combination with a tender or exchange offer or on a “stand-alone” basis.
When combined with a tender or exchange offer, holders who participate in the offer also provide their consent to the proposed covenant changes, sometimes removing substantially all restrictive covenants. This is referred to as an “exit consent” because it is provided by holders “on their way out” of their bond positions. The changes in the terms of the bonds that remain outstanding will only become operative once the associated tender or exchange offer has closed. The minimum duration of that offer is governed by the SEC tender offer rules, and abbreviated five-business day offers cannot be made in conjunction with an exit consent.
By contrast, stand-alone consent solicitations may be completed quickly and with few requirements. However, without an associated tender or exchange offer, companies may need to offer holders a consent fee to obtain their consent to the proposed modification of the terms of their securities.
Convertible bonds are treated as equity securities under SEC tender offer rules. Tender offers for convertible bonds therefore require filing of a Schedule TO that is subject to SEC review and comment while the offer is pending. Tender offers for convertible bonds must also comply with the “all holders/best price” rule applicable to equity tender offers, and issuers therefore cannot offer an early tender premium or exclude retail holders (as in…
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