Issuers drop aggressive bond terms as investors balk

A street sign for Wall Street is seen outside the New York Stock Exchange in Manhattan, New York City
A street sign for Wall Street is seen outside the New York Stock Exchange (NYSE) in Manhattan, New York City, U.S. December 28, 2016. REUTERS/Andrew Kelly

January 11, 2017

By Will Caiger-Smith

NEW YORK (IFR) – Investors pushed back on new bond deals Wednesday, forcing three companies to restructure trades by removing language they said significantly erodes bondholder protections.

Chipmaker Broadcom, General Motors Financial and Brazilian pulp and paper company Fibria dropped the controversial language, which makes it easier for borrowers to breach covenants without offering compensation to investors.

The changes – unusual in the investment-grade corporate market – came amid warnings from some analysts that investor rights could be permanently weakened if they did not fight back.

Covenant Review said the terms were “spreading like wildfire” into investment-grade deals, having first appeared in high-yield bonds late last year.

“If investors do not rapidly start rejecting these deals, it is the beginning of the end of bond covenants,” the company’s founder, Adam Cohen, wrote in the note.

Covenant Review on Wednesday revised up its list from 10 to 18 companies – including Fibria, FedEx and insurance broker Marsh McLennan – that had marketed bond deals with the language the firm described as “No Premium on Default”.

“What they’re hoping for is to get this through on several deals and all of a sudden it becomes industry standard,” said Chuck Burge, senior portfolio manager at Invesco.

The scale of the pushback from the buyside, however, is likely to dissuade issuers from including such language in deals going forward, some bankers said.

“I think it will fade away and people will stop trying to put it in,” one banker told IFR.

High-yield issuers first began inserting the new terms after a US court ruling in September against pawn shop operator Cash America.

The court ordered Cash America to pay a make-whole premium to bondholders, because the sale of the majority of a wholly owned subsidiary violated covenants in its bond indenture.

Junk bond deals late last year from cloud computing firm Rackspace and building services company ServiceMaster subsequently ruled out a premium payment for bondholders in the event of a covenant breach.

That removes a key obstacle that traditionally discourages companies from taking actions that could leave bondholders worse off, said investors.

“If you don’t have that disincentive anymore there is a real risk companies could take actions that are detrimental to bondholders without any penalty,” said Jason Shoup, senior portfolio manager at Legal & General Investment Management America.

The controversy had limited impact on investor demand.

Broadcom, General Motors Financial and Fibria launched deals after the changes were made, and are expected to price bonds later Wednesday – and demand was fairly robust despite the controversy.

Broadcom’s four-part deal, for example, was bigger than expected at $13.5bn and order books had reached almost US$30bn just after guidance was announced and the deal looks set to price with single digit new issue concessions.

(Reporting by Will Caiger-Smith; Additional reporting by Paul Kilby and Davide Scigliuzzo; Editing by Natalie Harrison, Jack Doran and Shankar Ramakrishnan)