The product of complex negotiations, solutions to distressed credits typically require creative problem-solving and prompt implementation. Given that restructuring professionals are principally focused on developing and negotiating transactions that address what may be an existential issue for borrowers, parties often don’t fully appreciate that innovative and multifaceted solutions require exceedingly complex execution strategies. Failure to address implementation and execution may negatively impact the positions of all stakeholders. Typically, if execution issues do arise, we find that parties work cooperatively in accordance with the terms of the loan documentation and are guided by comity among lenders. Nevertheless, resulting transaction delays are frequent and, if certain parties are incentivized to interfere with or recut a transaction, shifting leverage on account of operational hurdles may influence material deal terms at the last minute.
This multi-part series of blog posts examines some of the more common pitfalls that frequently are unidentified or ignored until they appear as speed bumps perilously near to target closing dates. We will include topics such as agency resignations, letters of credit, loan mechanics and general strategies to identify and address these traps.
Why are Distressed Transactions More Difficult to Get to the Finish Line?
As a first step, we try to identify why distressed credits are particularly subject to pitfalls:
- Complexity. Distressed liability management exercises and bankruptcy proceedings frequently attempt to employ complex mechanics negotiated by deal teams without fully appreciating whether the agents and other parties’ operational teams can implement such mechanics.
- In-the Dark Transactions. Minority lenders, small holders and agents frequently do not participate in structuring discussions and, as a result, receive less information about proposed transactions. While keeping the details of potential transactions solely among participating parties may be a strategic imperative (and also required by applicable NDAs), in-the-dark liability management strategies close-out certain stakeholders from involvement, and their input and review of processes are not considered. When certain viewpoints are iced out, there is a greater chance that operational hurdles will not be identified until later in the transaction process, which increases transaction difficulty.
- Digital v. Manual. Transaction support software commonly is not setup for bespoke processes. Manual processes may be necessary, but an operations team may not be provided with enough time to establish and setup manual processes. Even with adequate time, manual processes may be prone to human error.
As such, we address where some of these hurdles most repeatedly occur.
Restructurings have what seem like a million moving pieces, and agency transfer processes may receive limited early consideration; however, failure to timely consummate agency resignations properly could have real effects on substantive deal terms.
While agency resignation and removals may potentially affect any syndicated credit facility, agency resignations are common in distressed credits. Agents may wish to resign in distressed situations for a multitude of reasons, including:
- Conflicts of Interest: A single institution serves as the agent under more than one facility with respect to the same borrower or group of credit parties (i.e., an agent on both first lien and second lien or both a revolving facility and term loan facility). While in a healthy credit this structure usually does not present problems, once a credit is distressed there is a greater likelihood that the creditors under one credit facility will have a different set of priorities than another and may want to pursue different strategies. Such strategies may conflict to the point where an agent determines it cannot fulfill its duties to both constituents. A good example is where parties have different rights to the same collateral.
- Trading Out: In a distressed scenario, it is not uncommon that an agent will have sold out of its position. In that case, an agent and sometimes lenders frequently prefer that it is replaced, usually with an “agent for hire” without any economic interest (and no individual agenda). Such an agent is not expected to exercise discretion or take an active role in the credit beyond instructions from requisite lenders. Additionally, given that such successor agent is not using its resources on discretionary functions or making decisions with respect to the substance of the credit, such agent may charge lower agency fees.
- Aggressive Maneuvers: With financial performance of a borrower suffering, lenders are more willing to test the bounds of credit agreement documentation to improve their return on investment including by engaging in liability management exercises that may invite attack from different constituents (e.g., minority lenders who have been excluded from the transaction). Some agents may opt to no longer be involved with such credit.
While agency transfer matters may seem like purely mechanical exercises, there are numerous components requiring due consideration for an efficient agency transaction. This is especially the case when it is necessary to have a successor agent in place in order to effectuate a modification of the relevant credit facilities, enter into a restructuring support agreement or orderly file a bankruptcy proceeding. Considerations include:
- How will pending trades be treated and will loan assignments need to be resubmitted? (This is particularly important if the company is trying to garner support for a transaction on a deadline or one that requires trades to settle for requisite votes.)
- Will the company or the lenders lead the successor agent selection process?
- What party will be responsible for obtaining requisite lender vote to appoint the successor agent?
- What deliverables are expected by the successor agent beyond the register and what form of register will be acceptable? Are tax forms and administrative questionnaires available in a transferrable form, or will the successor agent have to re-solicit from lenders?
- Are amendments to the credit agreement necessary to address that the agent will no longer exercise discretion?
- Are the agency and indemnification provisions acceptable to the successor agent? Do the interest calculations work with the successor agent’s platform?
- Will the resigning agent be responsible for organizing and transferring a full set of loan documents, or will that obligation fall on the borrower?
- For how long will the resigning agent maintain the electronic information platform (i.e., Intralinks, Syndtrak, etc.)?
- Are there any foreign obligors signatory to the agency transfer agreement located in a jurisdiction requiring extensive signing formalities?
We note that, with respect to negotiations of the above matters, the resigning agent will have leverage so long as its resignation is effective after a notice period (which typically is the case), whether or not a successor agent is in place.
See Part 2 where we discuss those lovable letters of credit, bank guarantees and other loan mechanic issues.