The International Comparative Legal Guide to: Securitisation 2012
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The International Comparative Legal Guide to:
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The International Comparative Legal Guide to: Securitisation 2012 General Chapters:
Contributing Editor
1
Documenting Receivables Financings in Leveraged Finance and High-Yield Transactions – Dan Maze & Rupert Hall, Latham & Watkins LLP
1
2
The Evolution of a Global Asset Class: The Securitisation of Trade Receivables – Past, Present and Future – Mark D. O’Keefe, Rabobank International
8
New Structural Features for Collateralised Loan Obligations – Craig Stein & Paul N. Watterson, Jr., Schulte Roth & Zabel LLP
13
EU and US Securitisation Risk Retention and Disclosure Rules – A Comparison – Tom Parachini & Erik Klingenberg, SNR Denton
18
US Taxation of Non-US Investors in Securitisation Transactions – David Z. Nirenberg, Ashurst LLP
24
3 4 5
Mark Nicolaides, Latham & Watkins LLP Account Managers Dror Levy, Maria Lopez, Florjan Osmani, Oliver Smith, Rory Smith, Toni Wyatt Sub Editor Fiona Canning
Country Question and Answer Chapters: 6
Argentina
Estudio Beccar Varela: Damián F. Beccar Varela & Roberto A. Fortunati
35
7
Australia
Ashurst: Paul Jenkins & Jamie Ng
44
8
Austria
Fellner Wratzfeld & Partners: Markus Fellner
54
9
Brazil
Levy & Salomão Advogados: Ana Cecília Giorgi Manente & Fernando de Azevedo Peraçoli 62
10 Canada
Torys LLP: Michael Feldman & Jim Hong
72
Editor Suzie Kidd
11 China
FenXun Partners: Fred Chang & Xusheng Yang
82
12 Czech Republic
TGC Corporate Lawyers: Jana Jesenská & Andrea Majerčíková
Senior Editor Penny Smale
13 Denmark
Accura Advokatpartnerselskab: Kim Toftgaard & Christian Sahlertz
101
14 England & Wales
Weil, Gotshal & Manges: Jacky Kelly & Rupert Wall
110
15 Estonia
Attorneys at law Borenius: Indrek Minka & Aivar Taro
121
Group Publisher Richard Firth
16 Finland
Roschier, Attorneys Ltd.: Helena Viita & Tatu Simula
130
17 France
Freshfields Bruckhaus Deringer LLP: Hervé Touraine & Laureen Gauriot
140
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18 Germany
Cleary Gottlieb Steen & Hamilton LLP: Werner Meier & Michael Kern
151
19 Greece
KGDI Law Firm: Christina Papanikolopoulou & Athina Diamanti
164
20 Hong Kong
Bingham McCutchen LLP: Vincent Sum & Laurence Isaacson
173
21 Hungary
Gárdos Füredi Mosonyi Tomori: István Gárdos & Erika Tomori
185
22 India
Dave & Girish & Co.: Mona Bhide
194
23 Italy
CDP Studio Legale Associato: Giuseppe Schiavello & Stefano Agnoli
204
24 Japan
Nishimura & Asahi: Hajime Ueno
213
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25 Korea
Kim & Chang: Yong-Ho Kim & Hoin Lee
226
26 Mexico
Cervantes Sainz, S.C.: Diego Martinez & Alejandro Sainz
238
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27 Netherlands
Loyens & Loeff N.V.: Mariëtte van 't Westeinde & Jan Bart Schober
247
28 New Zealand
Chapman Tripp: Dermot Ross & John Sproat
260
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29 Poland
TGC Corporate Lawyers: Marcin Gruszko & Grzegorz Witczak
269
30 Portugal
Vieira de Almeida & Associados: Paula Gomes Freire & Benedita Aires
278
31 Saudi Arabia
King & Spalding LLP: Nabil A. Issa & Martin P. Forster-Jones
290
32 Scotland
Brodies LLP: Bruce Stephen & Marion MacInnes
298
33 Singapore
Drew & Napier LLC: Petrus Huang & Ron Cheng
306
34 South Africa
Werksmans Attorneys: Richard Roothman & Tracy-Lee Janse van Rensburg
317
35 Spain
Uría Menéndez Abogados, S.L.P.: Ramiro Rivera Romero & Pedro Ravina Martín
330
36 Switzerland
Pestalozzi Attorneys at Law Ltd: Oliver Widmer & Urs Kloeti
343
37 Taiwan
Lee and Li, Attorneys-at-Law: Abe Sung & Hsin-Lan Hsu
354
38 UAE
King & Spalding LLP: Rizwan H. Kanji & Martin P. Forster-Jones
364
39 USA
Latham & Watkins LLP: Lawrence Safran & Kevin T. Fingeret
372
Managing Editor Alan Falach
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ISBN 978-1-908070-25-8 ISSN 1745-7661 Strategic Partners
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Chapter 1
Documenting Receivables Financings in Leveraged Finance and High-Yield Transactions Latham & Watkins LLP
Introduction Including a receivables securitisation tranche when financing (and refinancing) highly leveraged businesses that generate trade receivables has become popular for several reasons. First, and foremost, securitisation financings can generally be obtained at lower, and in some cases much lower, overall cost to the corporate group. Second, securitisation financings can be incurred by the target operating companies directly, and do not need to be “pushed down” from the acquisition vehicle (as is sometimes the case with leveraged financings), thus providing immediate working capital for the group. Third, securitisation financings generally do not impose as extensive a package of operational restrictions on the group compared with leveraged finance documentation or even incurrence covenants found in high-yield bond and senior secured note indentures. Finally, many companies engaged in securitisation transactions claim that it helps them improve the efficiency of their underlying business by focussing management attention on the actual performance of customer relationships (e.g., invoice payment speed and volume of post-sale adjustments). In this chapter, the term “high-yield” refers to both traditional unsecured high-yield bonds as well as senior secured notes that are an increasingly important part of the capital structure. In leveraged finance facility agreements and bond indentures, affirmative and negative covenants restrict the operations of the Borrower / bond issuer, and all or certain of its significant (i.e. “restricted”) subsidiaries, in a complex and wide-ranging manner. We set out below the manner in which such covenants would need to be modified in order for a Borrower / Issuer to be able to enter into a receivables securitisation without needing to obtain specific lender or bondholder consent (often a costly and a challenging process). Although this chapter describes one set of modifications, there are of course various means of achieving the same objectives and the transaction documentation must be analysed carefully in each case to determine what exactly is required. This chapter also discusses some of the key negotiating issues involved in negotiating and documenting such covenant modifications. Once appropriate covenant carve-outs permitting a trade receivables securitisation have been agreed, the securitisation itself can then be structured and documented. Each of the country chapters in the latter part of this guide provides a summary of the issues involved in executing a securitisation in that country.
Typical Transaction Structure Trade receivables are non-interest bearing corporate obligations typically payable 60 to 90 days following invoicing. They arise
Dan Maze
Rupert Hall
following the delivery of goods or the rendering of services by a company to its customers. As long as a receivable is legally enforceable and not subject to set-off, and satisfies certain other eligibility criteria specific to each transaction, the company to which the receivable is owing can raise financing against it. One popular form of receivables financing, asset-based lending (ABL), is structured as a loan to a company secured by the receivables. ABL transactions, although popular, have the drawback of exposing ABL lenders to all of the risks of the borrowing company’s business – risks which may lead to the company’s insolvency and (at least) delays in repayment of the ABL lenders. An alternative form of receivables financing, discussed below, is a “securitisation” of the receivables. A securitisation involves the outright sale of receivables by a company to a special purpose “vehicle” (SPV), usually a company but also possibly a partnership or other legal entity, which exists for no other business than to acquire the receivables. The purchase price of receivables will generally equal the face amount of the receivables minus (in most cases, but depending on the tax laws of the relevant selling company’s jurisdiction) a small discount to cover expected losses on the purchased receivables and financing and other costs of the SPV. The purchase price will typically be paid in two parts: a nonrefundable cash component paid at the time of purchase with financing provided to the SPV by senior lenders or commercial paper investors; and a deferred component payable out of collections on the receivables. In some jurisdictions, the deferred component may need to be paid up front (e.g., to accomplish a “true sale” under local law), in which case the SPV must incur subordinated financing, usually from a member of the selling company’s group, to pay that portion of the purchase price up front. The SPV will grant security over the receivables it acquires and all of its other assets to secure repayment of the financing incurred by it to fund receivables purchases. The SPV will be structured to have no activities and no liabilities other than what is incidental to owning and distributing the proceeds of collections of the receivables. The SPV will have no employees or offices of its own; instead, the SPV will outsource all of its activities to third parties pursuant to contracts in which the third parties agree not to make claims against the SPV. While the SPV purchaser will often be established as an “orphan company”, with the shares in the company held in a charitable trust, rather than by a member of the target group, in certain jurisdictions and depending on the particular deal structure, it may be necessary to establish an initial purchaser of receivables that is incorporated as a member of the group (which may then on-sell the receivables to an “orphan” SPV).
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Latham & Watkins LLP Collection of the receivables will generally be handled by the selling company or its parent pursuant to an outsourcing contract until agreed trigger events occur, at which point a third party servicer can be activated. By these and other contractual provisions, the SPV is rendered “bankruptcy remote” and investors in the securitisation are as a result less likely to suffer the risks of the insolvency of the Borrower of the securitisation debt. From collections, the SPV will pay various commitment fees, administration fees and interest to its third party suppliers and finance providers. All payments are made pursuant to payment priority “waterfalls” that govern which parties are paid first, which next, and which last. Typically, there is one waterfall for distributions made prior to enforcement and one for distributions made after enforcement commences. The structure of a typical trade receivables securitisation transaction looks like the following:
Documenting Receivables Financings “Qualified Receivables Financing” means any Receivables Financing of a Receivables Subsidiary that meets the following conditions: (a)
an Officer or the Board of Directors of the Issuer shall have determined in good faith that such Qualified Receivables Financing (including financing terms, covenants, termination events and other provisions) is in the aggregate economically fair and reasonable to the Issuer and the Receivables Subsidiary;
(b)
all sales of accounts receivable and related assets to the Receivables Subsidiary are made at fair market value (being the value that would be paid by a willing buyer to an unaffiliated willing seller in a transaction not involving distress of either party, as determined in good faith by the responsible accounting or financial office of the Issuer); and
(c)
the financing terms, covenants, termination events and other provisions thereof shall be on market terms (as determined in good faith by the Issuer) and may include Standard Securitisation Undertakings.
The grant of a security interest in any accounts receivable of the Issuer or any of its Restricted Subsidiaries (other than a Receivables Subsidiary) to secure Indebtedness under a Credit Facility or Indebtedness in respect of the Notes shall not be deemed a Qualified Receivables Financing. “Receivable” means a right to receive payment arising from a sale or lease of goods or services by a Person pursuant to an arrangement with another Person pursuant to which such other Person is obligated to pay for goods or services under terms that permit the purchase of such goods and services on credit, as determined on the basis of applicable generally accepted accounting principles.
Documentation Provisions In light of the foregoing, we describe below the documentation provisions necessary to permit a trade receivables securitisation. In summary, the relevant documentation will need to include several framework definitions describing the general terms of the anticipated securitisation transaction and several carve-outs from the restrictive covenants to which the relevant Borrower / Issuer would otherwise be subject. We address each in turn below.
Descriptive Definitions The following descriptive definitions will need to be added to the relevant transaction documents to describe what is permitted and thus to provide reference points for the covenant carve-outs which follow. The definitions below are tailored for a high-yield indenture (in part by referring to an “Issuer”), but they can easily be modified for a senior facility agreement if desired. The definitions below contain various limitations designed to strike a balance between the interests of the owners of the Borrower / Issuer, on the one hand, who desire to secure the receivables financing on the best possible terms, and the interests of the senior lenders / bondholders, on the other hand, who do not want the terms of the securitisation financing to disrupt the Borrower’s ability to repay their (usually much larger) leveraged loans or bonds in accordance with their terms. The definitions below are of course negotiable, and the exact scope of the definitions and related provisions will depend on the circumstances of the particular transaction and the needs of the particular group. In particular, where a business is contemplating alternate structures to a trade receivables securitisation, such as a factoring transaction, certain slight modifications may be necessary to one or more of the definitions and related provisions described below.
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“Receivables Assets” means any assets that are or will be the subject of a Qualified Receivables Financing. “Receivables Fees” means distributions or payments made directly or by means of discounts with respect to any participation interest issued or sold in connection with, and other fees paid to a Person that is not a Restricted Subsidiary in connection with, any Receivables Financing. “Receivables Financing” means any transaction or series of transactions that may be entered into by the Issuer or any of its Subsidiaries pursuant to which the Issuer or any of its Subsidiaries may sell, convey or otherwise transfer to (a) a Receivables Subsidiary (in the case of a transfer by the Issuer or any of its Subsidiaries), or (b) any other Person (in the case of a transfer by a Receivables Subsidiary), or may grant a security interest in, any accounts receivable (whether now existing or arising in the future) of the Issuer or any of its Subsidiaries, and any assets related thereto, including all collateral securing such accounts receivable, all contracts and all guarantees or other obligations in respect of such accounts receivable, proceeds of such accounts receivable and other assets which are customarily transferred or in respect of which security interest are customarily granted in connection with asset securitisation transactions involving accounts receivable and any Hedging Obligations entered into by the Issuer or any such Subsidiary in connection with such accounts receivable. “Receivables Repurchase Obligation” means any obligation of a seller of receivables in a Qualified Receivables Financing to repurchase receivables arising as a result of a breach of a representation, warranty or covenant or otherwise, including as a result of a receivable or portion thereof becoming subject to any asserted defense, dispute, off-set or counterclaim of any kind as a result of any action taken by, any failure to take action by or any other event relating to the seller. “Receivables Subsidiary” means a SPV Subsidiary or a
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Latham & Watkins LLP wholly-owned Subsidiary of the Issuer which is designated by the Board of Directors of the Issuer as a Receivables Subsidiary: (a)
(b)
(c)
no portion of the Indebtedness or any other obligations (contingent or otherwise) of which (i) is guaranteed by the Issuer or any other Restricted Subsidiary of the Issuer (excluding guarantees of obligations (other than the principal of, and interest on, Indebtedness) pursuant to Standard Securitisation Undertakings), (ii) is subject to terms that are substantially equivalent in effect to a guarantee of any losses on securitised or sold receivables by the Issuer or any other Restricted Subsidiary of the Issuer, (iii) is recourse to or obligates the Issuer or any other Restricted Subsidiary of the Issuer in any way other than pursuant to Standard Securitisation Undertakings, or (iv) subjects any property or asset of the Issuer or any other Restricted Subsidiary of the Issuer, directly or indirectly, contingently or otherwise, to the satisfaction thereof, other than pursuant to Standard Securitisation Undertakings; with which neither the Issuer nor any other Restricted Subsidiary of the Issuer has any contract, agreement, arrangement or understanding other than on terms which the Issuer reasonably believes to be no less favourable to the Issuer or such Restricted Subsidiary than those that might be obtained at the time from Persons that are not Affiliates of the Issuer; and to which neither the Issuer nor any other Restricted Subsidiary of the Issuer has any obligation to maintain or preserve such entity’s financial condition or cause such entity to achieve certain levels of operating results.
Any such designation by the Board of Directors of the Issuer shall be evidenced to the Trustee by filing with the Trustee a copy of the resolution of the Board of Directors of the Issuer giving effect to such designation and an Officer’s Certificate certifying that such designation complied with the foregoing conditions. “SPV Subsidiary” means any Person formed for the purposes of engaging in a Qualified Receivables Financing with the Issuer in which the Issuer or any Subsidiary of the Issuer makes an Investment and to which the Issuer or any Subsidiary of the Issuer transfers accounts receivable and related assets) which engages in no activities other than in connection with the financing of accounts receivable of the Issuer and its Subsidiaries, all proceeds thereof and all rights (contractual or other), collateral and other assets relating thereto, and any business or activities incidental or related to such business; “Standard Securitisation Undertakings” means representations, warranties, covenants, indemnities and guarantees of performance entered into by the Issuer or any Subsidiary of the Issuer which the Issuer has determined in good faith to be customary in a Receivables Financing, including those relating to the servicing of the assets of a Receivables Subsidiary, it being understood that any Receivables Repurchase Obligation shall be deemed to be a Standard Securitisation Undertaking.
Qualified Receivables Financing Criteria
Documenting Receivables Financings already incorporated into the descriptive definitions above (see “Key Issues” below). However, if required, these may include: minimum credit ratings (for underlying debt or the securities issued pursuant to the securitisation); conditions as to who may arrange the securitisation; notification obligations in respect of the main commercial terms; requirement to ensure representations, warranties, undertakings and events of defaults / early amortisation events are no more onerous than the senior financing; and/or other economic terms.
Covenant Carve-outs In a typical senior facility agreement or high-yield indenture, the securitisation transaction must be carved out of several covenants, described in further detail below. In summary, carve-outs will need to be created for the following restrictive covenants: Asset sales / disposals. Indebtedness. Liens / negative pledge. Restricted payments. Limitations on certain payments by Restricted Subsidiaries. Affiliate transactions / arm’s length terms. Financial covenants (in the case of facility debt only). Limitation on Asset Sales / Disposals Typically in a leveraged facility agreement, the relevant Borrower may not, and may not permit any of its subsidiaries to, sell, lease, transfer or otherwise dispose of assets (other than up to a certain permitted value), except in the ordinary of course of trading or subject to certain other limited exceptions. Similarly, in a typical high-yield indenture, the Issuer may not, and may not permit any of its Restricted Subsidiaries to make any direct or indirect sale, lease (other than an operating lease entered into in the ordinary course of business), transfer, issuance or other disposition, of shares of capital stock of a subsidiary (other than directors’ qualifying shares), property or other assets (referred to collectively as an “Asset Disposition”), unless the proceeds of such disposition are applied in accordance with the indenture (which will regulate how much of the net disposal proceeds must be offered to purchase, prepay or redeem the high-yield bonds). However, in connection with a Qualified Receivables Transaction the relevant Borrower and its Restricted Subsidiaries will clearly be selling Receivables to the Receivables Subsidiary and those sales will be caught by such a restriction. Thus, the relevant documentation should contain an explicit carve-out, typically in the case of a high-yield indenture from the definition of “Asset Disposition”, along the following lines: (___) sales or dispositions of receivables in connection with any Qualified Receivables Financing; A similar carve-out can be included in the restrictive covenant relating to disposals in a loan facility agreement, or in the definition of “Permitted Disposal” or “Permitted Transaction”, where applicable. Limitation on Indebtedness
In addition to the descriptive definitions above, the documentation may also set out certain criteria which the Qualified Receivables Financing would have to meet in order to be permitted. These criteria will often be transaction specific or relate to certain commercial terms, in which case they may not be needed in addition to the requirements for market or customary provisions
Typically, in a leveraged facility agreement the relevant Borrower group is greatly restricted in its ability to incur third party financial indebtedness other than in the ordinary course of its trade (again often subject to a permitted debt basket and certain other limited exceptions). In a high-yield indenture, the Issuer and its Restricted Subsidiaries are typically restricted from incurring Indebtedness
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Latham & Watkins LLP other than “ratio debt” (e.g. when the fixed charge or leverage ratio of the group is at or below a specified level), subject to limited exceptions. In a high-yield indenture, the term “Indebtedness” typically covers a wide variety of obligations, including (without limitation) with respect to any entity: (1) principal of indebtedness for borrowed money; (2) principal of obligations evidenced by bonds, debentures, notes or other similar instruments; (3) all reimbursement obligations in respect of letters of credit, bankers’ acceptances or other similar instruments; (4) the principal component of all obligations to pay the deferred and unpaid purchase price of property (except trade payables), which purchase price is due more than one year after the date of placing such property in service or taking final delivery and title thereto; (5) capitalised lease obligations; (6) the principal component of all obligations, or liquidation preference, with respect to any Preferred Stock; (7) the principal component of all indebtedness of third parties secured by a Lien on any asset of such entity, whether or not such indebtedness is assumed by such entity; (8) guarantees by such entity of the principal component of indebtedness of third parties; (9) net obligations under currency hedges and interest rate hedges. However, a Receivables Subsidiary in connection with a Qualified Receivables Transaction will incur various payment obligations that will be caught by such a restriction, particularly if the financing is raised in the form of a secured loan made to the Receivables Subsidiary. Thus, if a Borrower / Issuer desires to retain the ability to continue to obtain funding under a receivables securitisation even if the leverage of the group is too high to permit the incurrence of third party financings (or if the permitted debt basket is insufficient), the relevant documentation should contain an explicit carve-out from the indebtedness restrictive covenant along the following lines: (___) indebtedness incurred by a Receivables Subsidiary in a Qualified Receivables Financing; It is of course also possible to exclude the securitisation transaction from the definition of “Indebtedness” directly and there is nothing wrong with having both carve-outs in the documents: The term “Indebtedness” shall not include . . . (___) obligations and contingent obligations under or in respect of Qualified Receivables Financings. However, it should be noted that an exclusion from “Indebtedness” may have an impact on other provisions such as cross defaults or financial covenants so it should therefore be considered carefully in the different contexts in which it would apply (see also “Financial Covenants” below). Subject to the same considerations, a similar carve-out can be included in the restrictive covenant relating to the incurrence of Financial Indebtedness in a loan facility agreement, or in the definition of “Permitted Financial Indebtedness” or “Permitted Transaction”, where applicable. Mandatory Prepayment of Other Debt from the Proceeds of Securitisations The carve-outs from disposals covenants and “Indebtedness” described above may be subject to a cap, above which any such amounts are either prohibited absolutely or subject to mandatory prepayment of other debt. Whether, and to what extent, the proceeds of securitisations should be used to prepay other debt can often be heavily negotiated, particularly in the leveraged loan market. The business may wish to use such proceeds for general working capital purposes while lenders would be concerned at the additional indebtedness incurred by a Borrower group which may already be highly leveraged. If some form of mandatory prepayment is agreed, this will often be limited to the initial proceeds of the securitisation so that the Borrower is not required to keep prepaying as new receivables
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Documenting Receivables Financings replace existing receivables. A simple way to incorporate this into the loan documentation would be to carve out ongoing proceeds from the proceeds which are required to be prepaid: “Excluded Qualified Receivables Financing Proceeds” means any proceeds of a Qualified Receivables Financing to the extent such proceeds arise in relation to receivables which replace maturing receivables under that or another Qualified Receivables Financing; “Qualified Receivables Financing Proceeds” means the proceeds of any Qualified Receivables Financing received by any member of the Group except for Excluded Qualified Receivables Financing Proceeds and after deducting: (a)
fees, costs and expenses in relation to such Qualified Receivables Financing which are incurred by any member of the Group to persons who are not members of the Group; and
(b)
any Tax incurred or required to be paid by any member of the Group in connection with such Qualified Receivables Financing (as reasonably determined by the relevant member of the Group, on the basis of existing rates and taking into account of available credit, deduction or allowance) or the transfer thereof intra-Group,
to the extent they exceed, in aggregate for the Group, (___) in any financial year. Limitation on Liens / Negative Pledge Typically, in a leveraged facility agreement, a Borrower may not, and may not permit any of its subsidiaries to, create or permit to subsist any security interest over any of its assets, other than as arising by operation of law or in the ordinary course of trade (again often subject to a permitted security basket and certain other limited exceptions). Similarly, in a typical high-yield indenture, an Issuer may not, and may not permit any of its Restricted Subsidiaries to, incur or suffer to exist, directly or indirectly, any mortgage, pledge, security interest, encumbrance, lien or charge of any kind (including any conditional sale or other title retention agreement or lease in the nature thereof) upon any of its property or assets, whenever acquired, or any interest therein or any income or profits therefrom (referred to collectively as “Liens”), unless such Liens also secure the high-yield debt (either on a senior or equal basis, depending on the nature of the other secured debt). As with leveraged loan facilities, typically, there is a carve-out for “Permitted Liens” that provide certain limited exceptions. However, a Receivables Subsidiary in connection with a Qualified Receivables Transaction will grant or incur various Liens in favour of the providers of the securitisation financing that will be caught by the restriction, particularly if the financing is raised in the form of a secured loan made to the Receivables Subsidiary. Thus, the relevant documentation should contain an explicit carve-out from the Lien restriction, along the lines of one or more paragraphs added to the definition of “Permitted Lien”: (___) Liens on Receivables Assets Incurred in connection with a Qualified Receivables Financing; (___) Liens securing Indebtedness or other obligations of a Receivables Subsidiary; A similar carve-out can be included in the negative pledge in a loan facility agreement, or in the definition of “Permitted Security” or “Permitted Transaction”, where applicable. Limitation on Restricted Payments Typically, in a leveraged facility agreement, the Borrower and its subsidiaries may not make payments and distributions out of the restricted group to the equity holders or in respect of subordinated shareholder debt. Similarly, in a typical high-yield indenture, an Issuer may not, and may not permit any of its restricted subsidiaries
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Latham & Watkins LLP to, make various payments to its equity holders, including any dividends or distributions on or in respect of capital stock, or purchases, redemptions, retirements or other acquisitions for value of any capital stock, or principal payments on, or purchases, repurchases, redemptions, defeasances or other acquisitions or retirements for value of, prior to scheduled maturity, scheduled repayments or scheduled sinking fund payments, any subordinated indebtedness (as such term may be defined). However, a Receivables Subsidiary in connection with a Qualified Receivables Financing will need to pay various fees that may be caught by this restriction. Thus, the relevant documentation should contain an explicit carve-out from the restricted payment restrictive covenant, along the following lines: (___) payment of any Receivables Fees and purchases of Receivables Assets pursuant to a Receivables Repurchase Obligation in connection with a Qualified Receivables Financing; A similar carve-out can be included in the restrictive covenants relating to dividends and restricted payments in a loan facility agreement, or in the definition of “Permitted Distribution” or “Permitted Transaction”, where applicable. Limitation on Restrictions on Distributions from Restricted Subsidiaries In some documentation, a Borrower / Issuer may not permit any of its restricted subsidiaries to create or otherwise cause or permit to exist or to become effective any consensual encumbrance or consensual restriction on the ability of any restricted subsidiary to make various restricted payments, make loans, and otherwise make transfers of assets or property to such Borrower / Issuer. However, a Receivables Subsidiary in connection with a Qualified Receivables Financing will have restrictions placed on its ability to distribute cash to parties in the form of payment priority “waterfalls” that will usually be caught by such a restriction. Thus, the relevant document should contain an explicit carve-out from the limitation on restrictions on distributions, etc., along the following lines: (___) restrictions effected in connection with a Qualified Receivables Financing that, in the good faith determination of an Officer or the Board of Directors of the Issuer, are necessary or advisable to effect such Qualified Receivables Financing; Limitation on Affiliate Transactions / Arm’s Length Terms Typically, in a leveraged facility agreement, the Borrower and its subsidiaries will not be allowed to enter into transactions other than on an arm’s length basis. Similarly, in a typical high-yield indenture, an Issuer may not, and may not permit any of its restricted subsidiaries to, enter into or conduct any transaction or series of related transactions (including the purchase, sale, lease or exchange of any property or the rendering of any service) with any affiliate unless such transaction is on arm’s length terms. Depending on the value of such transaction, an Issuer may be required to get a “fairness opinion” from an independent financial adviser or similar evidencing that the terms are not materially less favourable to the Issuer (or to the relevant restricted subsidiary) as would be achieved on an arm’s length transaction with a third party. A Receivables Subsidiary in connection with a Qualified Receivables Transaction will need to engage in multiple affiliate transactions because it will purchase Receivables from other members of the Group on an on-going basis and a variety of contractual obligations will arise in connection with such purchases. While the terms of such financing may be structured to qualify as a true sale, and be on arm’s length terms, the potential requirement to obtain a “fairness opinion” from an independent
Documenting Receivables Financings financial adviser in connection with each such transaction is an additional burden that the business will want to avoid, and the indenture will therefore need to contain an explicit carve-out from the restriction on affiliate transactions, along the following lines: (___) any transaction between or among the Issuer and any Restricted Subsidiary (or entity that becomes a Restricted Subsidiary as a result of such transaction), or between or among Restricted Subsidiaries or any Receivables Subsidiary, effected as part of a Qualified Receivables Financing; A similar carve-out can be included in the restrictive covenant relating to arm’s length transactions in a loan facility agreement, or in the definition of “Permitted Transaction”, where applicable. Financial Covenants In addition to the carve-outs described above, the parties will also need to consider carefully whether the activities of the Borrower and its subsidiaries in connection with Qualified Receivables Financings may impact the testing of financial covenants. Although high-yield indentures will typically not contain maintenance covenants in the same way, the testing of financial ratios is still important for the purposes of determining whether a particular action may be taken by an Issuer or a restricted subsidiary under the high-yield indenture at a particular time, or indeed to determine whether a subsidiary must be designated as a Restricted Subsidiaries in the first place. In a high-yield indenture, important carve-outs can be accomplished by excluding the effects of the securitisation financing from two key definitions: “Consolidated EBITDA” for any period means, without duplication, the Consolidated Net Income for such period, plus the following to the extent deducted in calculating such Consolidated Net Income (1) Consolidated Interest Expense and Receivables Fees; (___) . . . “Consolidated Interest Expense” means, for any period (in each case, determined on the basis of UK GAAP), the consolidated net interest income/expense of the Issuer and its Restricted Subsidiaries, whether paid or accrued, plus or including (without duplication) . . .. Notwithstanding any of the foregoing, Consolidated Interest Expense shall not include (i) . . . (____) any commissions, discounts, yield and other fees and charges related to a Qualified Receivables Financing. The treatment of financial covenant definitions in a leveraged facility agreement is potentially more complex, and care should be taken to ensure that the treatment of receivables securitisations in the various related definitions is consistent with the base case model used to set the financial covenant levels and with the applicable accounting treatments. Examples of definitions which should incorporate receivables securitisations might include, in the case of leveraged loan facility agreements, the definitions of “Borrowings”, “Finance Charges” and “Debt Service”.
Key Issues Should an early amortisation of the securitisation facility constitute a cross-acceleration or cross-default to the leveraged finance facility or high-yield bonds? Leveraged finance facility agreements and high-yield bond indentures typically contain a clause providing that the leveraged loans or bonds, as applicable, can be declared to be repayable immediately should an event of default occur, with respect to some third party debt, or should such third party debt become payable before its scheduled maturity. A receivables securitisation financing can be structured so that there is no debt, and therefore no
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Latham & Watkins LLP events of default or acceleration can occur. Instead, Receivables Financings enter into so-called early amortisation pursuant to which the receivables collections that would normally have been paid to the Borrower’s group to acquire new receivables is paid instead to the provider of the Receivables Financing. The commercial risk to lenders and bondholders should an early amortisation event occur is that the cut-off of funds cause a sudden and severe liquidity crisis at the Borrower’s group. Thus, subject to a materiality threshold below which the parties agree that the sudden loss of liquidity is not material, cross-default and crossacceleration triggers in leveraged finance facilities and high-yield bond indentures should be tripped if an early amortisation event occurs under a Receivables Financing facility. How might the non-renewal of the securitisation programme affect the leveraged loans and the high-yield bonds? For historical reasons, most securitisation facilities must be renewed every year by the receivables funding providers. The leveraged loans and high-yield bonds, on the other hand, have far longer maturities. The non-renewal of a securitisation facility prior to the maturity of the leveraged loans and high-yield bonds can cause a liquidity crisis at the Borrower’s group in the same manner as any early amortisation event, and should be picked up in the leveraged finance and high-yield documentation in a comparable manner. Should there be any limits to the size of the securitisation facility? If so, how should those limits be defined? By its nature, a securitisation financing removes the most liquid assets of a Borrower group –the short term cash payments owing to the group from its customers – from the reach of the leveraged lenders and high-yield bondholders. Moreover, the amount of new Receivables Financing raised will never equal the full face value of the receivables sold, because the receivables financing providers will advance funds on the basis of some “advance rate” or subject to certain “reserves” which result in the new funding equalling 75% to 80% of the full face value of the receivables at best. On the other hand, a Receivables Financing delivers to the Borrower group, the lenders and bondholders alike the benefits of lower-cost funding and liquidity. Where the balance between these two competing factors should be struck is for negotiation among the parties, but some balance in the form of a limit to the overall size of the receivables facility seems appropriate. Should a limit be agreed, the residual question is how that limit should be defined. There are two main options. The limit can be defined by reference to the total outstanding value at any point in time of receivables sold, or it can be defined by reference to the total Receivables Financing raised. The disadvantage of the latter approach is that it rewards Receivables Financings with poor advance rates. If a Receivables Financing has an advance rate of 80%, £500 million face value of receivables is needed to raise £400 million of financing. On the other hand, if a receivables financing has an advance rate of only 50%, £800 million face value of receivables is needed to raise the same £400 million of financing. In the latter example, the leverage lenders and high-yield bondholders lose more receivables for little or no additional cost or liquidity benefit.
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Documenting Receivables Financings Should “ineligible” receivables be sold? This issue functions commercially in much the same manner as the advance rate issue discussed immediately above. As summarised at the beginning of this chapter, Receivables Funding providers only advance funds against receivables that satisfy certain specified eligibility standards. That requirement, however, does not mean that the “ineligible” receivables are any less likely to be paid or that they have actual payment rates that are any less sound compared with eligible receivables. However, the advance rate against an ineligible receivable is 0% and, as a result, including them in the pool of sold receivables will reduce the effective overall advance rate against the pool, with the adverse impact for lenders and bondholders described above. Accordingly, if ineligible receivables constitute any meaningful percentage of a group’s total receivables, it makes sense to require that ineligible receivables be excluded from the receivables financing. Should proceeds raised under the securitisation facility be used to repay debt? The required and permitted use of proceeds of a securitisation financing is always a key point of negotiation. The outcome of those negotiations will depend upon many diverse factors, including whether the group’s liquidity needs are met by one of the leveraged loan facilities and whether the Borrower’s group can bear the higher overall debt burden should no debt repayment be required. Should the lenders/bondholders regulate the specific terms of the securitisation? Sponsors prefer that the receivables financing carve-outs permits any programme which a responsible officer of the Borrower determines in good faith are “on market terms” which are “in the aggregate economically fair and reasonable” to the Borrower / Issuer and the group. This approach is, in general, the correct one. As indicated above, however, certain issues are sufficiently important for the parties to agree upon in advance. Beyond these and possibly a handful of additional issues, neither lenders nor bondholders should have the right specifically to approve the documentation of the receivables financing facility.
Conclusion In summary, with very little modification to the standard leveraged loan or high-yield documentation, a trade receivables securitisation financing can easily be added as part of a leveraged buy-out financing or refinancing, thereby providing financing directly to the relevant corporate group on comparatively favourable terms.
ICLG TO: SECURITISATION 2012
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Latham & Watkins LLP
Documenting Receivables Financings
Dan Maze
Rupert Hall
Latham & Watkins LLP 99 Bishopsgate London EC2M 3XF United Kingdom
Latham & Watkins LLP 99 Bishopsgate London EC2M 3XF United Kingdom
Tel: Fax: Email: URL:
Tel: Fax: Email: URL:
+44 20 7710 1000 +44 20 7374 4460
[email protected] www.lw.com
Dan Maze is a Finance partner in the London office of Latham & Watkins. He has a wide range of experience in leveraged finance transactions, investment-grade acquisition facilities, restructurings and workouts and emerging markets financings.
+44 20 7710 1000 +44 20 7374 4460
[email protected] www.lw.com
Rupert Hall is an associate in the London office of Latham & Watkins and is a member of the finance department. Rupert specialises in banking and leveraged finance, with a particular focus on cross-border acquisitions.
Latham & Watkins LLP is a global law firm with approximately 2,000 attorneys in 31 offices, including Abu Dhabi, Barcelona, Beijing, Boston, Brussels, Chicago, Doha, Dubai, Frankfurt, Hamburg, Hong Kong, Houston, London, Los Angeles, Madrid, Milan, Moscow, Munich, New Jersey, New York, Orange County, Paris, Riyadh, Rome, San Diego, San Francisco, Shanghai, Silicon Valley, Singapore, Tokyo and Washington, D.C. For more information on Latham & Watkins, please visit the Website at www.lw.com.
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The International Comparative Legal Guide to: Securitisation 2012
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