Provisions in the Bond Indenture

For businesses, commercial banks also provide specialized cash management and credit enhancement services. Cash management services are designed to allow businesses to make efficient use of their cash. For example, under normal circumstances a business would sell its product to a customer and send the customer a bill. The customer would then send a check to the business, and the business would then deposit the check in the bank.

The time between the date the business receives the check and deposits the check in the bank could be several days or a week. To eliminate this delay and allow the business to earn interest on its money sooner, commercial banks offer services to businesses whereby customers send checks directly to the bank, not the business. As a New Bond Issuer, Why it would be Important to Negotiate to Received the Right to include a Call and Refund Provisions in the Bond Indenture?

Majority enforcement provisions are designed to limit the ability of an individual bondholder to enforce its rights against the sovereign debtor following a default, thus providing a brake on aggressive litigation by dissident creditors during the period when the debtor and most creditors are negotiating a restructuring agreement. The relevant provisions include acceleration, reversal of acceleration, and initiation of legal proceedings and sharing. The rights of bondholders to accelerate the bond and take enforcement actions are different depending on whether the bond is issued under a fiscal agency agreement or a trust deed.

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Acceleration is a contractual remedy that allows a creditor to declare the full outstanding amount of the bond due and payable upon occurrence of an event of default. Normally, most of international sovereign bonds require a vote of 25 percent of the value of bond issue to accelerate. Allowing a qualified majority to restrain the ability of a small group of bondholders to accelerate is important particularly when an event of default is triggered by the cross-default provision.

This provision will help a sovereign that has a number of different outstanding issues to avoid the collapse of its debt structure because of its failure to make payments with respect to a single bond issue. There are, however, exceptions. Certain Sovereign bond issues registered with the SEC (Schedule B issues) that use fiscal agency agreements give each individual bondholder the right to accelerate its own bond, not the entire issue, without limitations. Some sovereign bonds governed by New York law contain both an individual right of Acceleration of its own bond and a requirement for a vote of 25 percent of outstanding principal to accelerate the entire issue.

Finally, in the case of bond issues using a trust deed or trust agreement, the trustee has the considerable discretion to accelerate the entire issue on behalf of the bondholders in addition to being required to accelerate upon a Collective vote. In many international sovereign bonds governed by New York law, Bondholders holding a requisite percentage of outstanding principal, typically 50 percent but in some cases 75 percent may reverse an acceleration of a bond issue if all the events of default have been cured or waived (except payment of amounts due solely by virtue of acceleration).

Allowing a majority of bondholders to rescind acceleration can act as a deterrent against litigation during the negotiation period. In the event that the bondholders who requested the acceleration do not represent the wills of the majority, dissident bondholders may be discouraged from initiating litigation if they are aware that a debtor could gather the support of a majority to reverse the acceleration before a judgment could be obtained.

This mechanism according to Lee played an important role in discouraging litigation against Ecuador during the recent restructuring of its debt. Following Ecuador’s default on its Brady bonds and Eurobonds in 1999, the Discount Bonds were accelerated by bondholders with 25 percent of the outstanding principal of that series. Eleven months later, Lee said Ecuador made an offer to exchange its outstanding sovereign bonds for new instruments on the condition that the acceleration of the Discount Bonds would be rescinded.

Such a rescission, which required the support of bondholders holding at least 50 percent of that issue, was accomplished at the closing of the exchange offer. (Lee C. B). It is important to establish a procedure for bondholders to participate in the negotiations with the debtor and other creditors as early as possible in the restructuring negotiations. Such a procedure should benefit both the debtor and bondholders. From the debtor’s viewpoint it would shortcut the long process of consultation with all bond holders and help attain a rapid restructuring.

From the bond holders’ perspective, they would want their voices to be heard at the negotiation table early in the restructuring process. To address this problem, Lee says proposals have been made recently to introduce provisions in future bonds that would facilitate the appointment of a party to represent all bondholders in the negotiations. One of the proposals would expressly give the trustee the authority to act as a channel of communication between the debtor and bondholders prior to a bondholders’ meeting.

(Lee C. B). News release from Finance Canada stated that the trustee could not delegate this function to a third party, neither the trustee nor its delegate would have any authority to legally bind the bondholders to any proposal. The authority of the trustee would be automatically terminated (unless extended by the bondholders) when a bondholders meeting is called. The government of Canada has recently included such a collective representation clause in its foreign currency bond and not issues. (News release).

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