Canada: Anticipating Credit Bidding In Syndicated Loan Documentation And Trust Indentures

Over the past year, there have been a number of insolvency proceedings in Canada where lenders have used their loans or notes to bid for assets which are being sold by an insolvent debtor. In some cases, this was effectively intended as a form of realization where some or all of the debt would be exchanged for the debtor's assets and business. The lenders would then own and operate the business, usually through a corporation, and potentially sell it at a more opportune time. In other cases, the credit bid was used as a "stalking horse" bid which set a floor price in a sales process with the result that the lenders would either be paid out in full or own the business. More often than not, the parties holding the debt which was being bid acquired the debt in the secondary market and were not the original lenders.

In Canada, the practice of credit bidding is not codified by statute, as is the case in other jurisdictions, most notably the United States Bankruptcy Code, but is a tool now utilized under the rubric of reorganizations effected under the Companies' Creditors Arrangement Act or even in receiverships. The advent of credit bidding gives rise to a number of issues in the context of a syndicated loan or trust indenture.

Under the traditional model of a Canadian syndicated loan, a group of lenders appoint an agent to act on their behalf in dealings with the borrower. The syndicate members delegate certain tasks to their agent, while retaining the right to make decisions typically by majority or supermajority vote, with some critical items, such as changes to interest rates, loan amortization, term and security (commonly referred to as "RATS") left to be determined by unanimity. Until recently, this model has survived unchanged for decades. Similar provisions exist in most trust indentures under which debt is issued.

It is unclear in the context of typical syndicated loan provisions whether an agent or indenture trustee has the ostensible authority to bid the loans of its principals, the lenders, in exchange for title to the debtor's assets which may constitute security for the loan. Technically, the agent is the secured party on behalf of itself and the lenders. The trustee performs a similar function but technically is a fiduciary which acts on behalf of the noteholders. However, it is often the case that the agent or trustee has little or no debt (or is no longer holding debt) owed to it in such capacity and thus little economic interest in any transaction.

As a practical matter, agents and trustees do not act without instructions from the lenders or noteholders except maybe in highly unusual circumstances. Most loan agreements and trust indentures are ambiguous as to whether unanimity (or near unanimity) under the RATS provisions is required for the agent or trustee to make a credit bid or whether other special majority provisions apply. Also, the majority provisions in the loan documentation may not correspond to the voting provisions under insolvency laws or other laws relating to corporate reorganizations which are sometimes used as a substitute therefor (e.g., the Canada Business Corporations Act arrangement sections). This can lead to structuring arbitrage where statutory provisions are used to deal with some debt and contractual provisions are used to compromise other debt.

Agents may also have conflicts if they represent different syndicates or have different interests within syndicates such as being an operating and term lender.

We urge parties to consider these issues in preparing loan documentation and trust indentures. In particular, they should consider whether special majorities should or should not be able to bind minorities to a credit bid and whether dissident lenders should be able to opt out or even to credit bid on their own. These factors must be considered in light of the potential impact of such decisions on the attractiveness of the debt in the secondary market (particularly for buyers who have the objective of owning the company) and the likelihood that other parties who own the debt may have divergent interests. There is no single right answer for all situations but there is clearly a need for intelligent discussion among credit experts, syndication teams, those performing administrative roles and counsel.

Parties who buy debt with a view to using it as part of a "loan-to-own" strategy should carefully review the underlying documents in order to ascertain whether such documents will facilitate or impair credit bidding.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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