A bond trustee is appointed at the outset of a bond issuance to represent the interests of bondholders, ensure that the terms of the trust indenture are complied with, collect and distribute coupon payments and generally facilitate the ongoing relationship between an issuer and its creditors. The bond trustee is therefore critical to the success of a bond issuance.
From the bondholders’ perspective, however, the role of the bond trustee is of arguably paramount importance in the event of a default. In this circumstance, being represented by the right bond trustee can mean the difference between being able to effect decisive, timely acceleration action and being subject to frustrating and costly delays over which bondholders may have little control.
Despite this, bondholders often do not sufficiently consider their likely priorities in a post-default situation when selecting a bond trustee. Reasonable fees are undoubtedly important, but giving prudent consideration to the choice of bond trustee based on wider criteria can pay dividends in the long run. This article looks at some of the key points for bondholders to consider when selecting their bond trustee.
If a bond transaction has been structured with a bond trustee, then typically it is only the bond trustee that is able to call an event of default and accelerate the debt on behalf of the bondholders. The bondholders may, by extraordinary resolution or if a specified percentage of them so direct, require the bond trustee to accelerate the bonds on their behalf but individually they have no right to take unilateral action.
This protects the issuer from an individual bondholder accelerating on the basis of a default that might be considered to be minor or not sufficiently important to other bondholders. It also means that the bondholders are dependent on the bond trustee to enforce their rights.
Documentation relating to a bond issuance will contain significant amounts of exculpatory language seeking to limit the liability of the bond trustee to the greatest extent permitted by law. Additionally, bond trustees are typically permitted to seek indemnification and/or prefunding to their satisfaction before being required to act on any instructions received from the bondholders. This is particularly the case when those instructions relate to debt acceleration, which has the potential to expose the bond trustee to costs, expenses and/or legal liabilities that are disproportionate to the fees paid to it for its services.
Negotiations around such indemnification/pre-funding requirements can sometimes take several months. This is typically due to the size of the bondholder group. If this is so large that indemnification negotiations are being led by a smaller “ad hoc committee” of bondholders, then that group may consider it unreasonable that they are being required to accept increased legal liability and/or bear upfront costs for the benefit of the wider bondholder group as a whole. On the other hand, the bond trustee is not incentivised to expose itself to potential legal liability as a result of enforcing a debt in which it has no fiscal interest of its own without adequate costs coverage. Finding a mutually agreeable solution to this divergence of interests can be a time-consuming process, at a point in the transaction when speed is likely to be of the essence.
Bondholders, frustrated by a bond trustee that they perceive to be uncooperative, often ask whether they can simply replace the incumbent bond trustee with a more commercially flexible party.
This may sound like a simple solution but, depending on the drafting of the relevant bond documentation, there can be practical difficulties. Chief among these is that the cooperation of the issuer may be required to replace the bond trustee (as is typically the case in New York law indentures) – something that is unlikely to be forthcoming if the purpose of the replacement is to facilitate acceleration. Even if a replacement can be effected without issuer involvement, it is likely to require significant consensus among the bondholder group and can take several weeks.
These difficulties can be avoided altogether if the right bond trustee is appointed at the start of the transaction.
The support of a professional bond trustee that understands the corporate bond market and its complexities is essential. Serica’s in-house team has extensive practical experience of debt enforcement scenarios, making us the ideal partner to help navigate choppy waters.
We know from experience that transactions can progress and evolve quickly, particular when things don’t go to plan. Bondholders need a bond trustee that is responsive to their needs and always available to answer questions and provide information.
Burdened by risk and compliance concerns, many trust service providers (particularly trust functions within banks) find it difficult to act quickly and decisively. There may be complex bureaucratic processes to comply with, and key decision makers are often spread over different geographic locations. In contrast, Serica’s agile team has all decision makers based in Asia and actively involved in transaction management. This enables us to provide a flexible and highly responsive service, with rapid turnaround times, efficient decision-making and effective communication from start to finish.
If a bond trustee is part of the same financial institution as one of the bondholders, then it may find itself conflicted if required to take acceleration action against the wishes of its own institution. Such difficulties are avoided by selecting a bond trustee like Serica that is not linked to or controlled by any larger financial institution or organisation.
Contact us at enquiries@sericatrust.com to discuss how we can support your business and transactions.
BACK TO INSIGHTS
+852 3795 6303
enquiry@sericatrust.com
