United States: Compelling Redemption Of Notes With A Make-Whole Premium As A Remedy For Breach

Much has been written concerning the liability of an issuer to pay a make-whole premium for debt that has been accelerated in bankruptcy. See Debt Dialogue, August 2016 (" No Turnover of the Make-Whole Amount in the EFH Bankruptcy") A recent case, Wilmington Savings Fund Society v. Cash America International, (S.D.N.Y. September 19, 2016), addressed a slightly different but related issue. Where an event of default is continuing under an indenture, may the trustee compel the issuer to redeem the debt and pay a make-whole premium, rather than accelerate and receive par? The court's answer in the circumstances of the case was yes, so long as the default may be deemed voluntary.

In May 2013, Cash America International issued $300 million worth of notes in a private placement. The indenture trustee was Wilmington Savings Fund Society (WSFS). Among the covenants of the indenture was a prohibition against Cash America's disposing of its properties. That prohibition had a number of exceptions, one of which allowed Cash America to engage in disposition transactions if "the aggregate book value of the properties disposed of does not exceed" 10% of the company's "consolidated total assets."

In 2014, Cash America announced that its board of directors approved a spin-off of its subsidiary Enova International. Cash America was in the business of providing secured non-recourse lending, and Enova conducted the online aspect of the business. In October 2014, a noteholder sent a letter to Cash America warning that the spin-off would violate the provisions of the indenture prohibiting dispositions, and suggesting that Cash America should redeem the notes together with a make-whole premium rather than violate indenture. Cash America responded by saying that the spin-off would not breach the indenture, and that if there were a breach, the noteholders' sole remedy would be acceleration. Shortly thereafter, Cash America effectuated the spin-off by conveying 80% of the interest in Enova to its shareholders.

The court first addressed the question of whether the Enova spin-off constituted a breach of the indenture, which turned on whether the spin-off qualified for the exception where the aggregate book value of the transferred properties did not exceed 10% of consolidated total assets. Cash America maintained that the aggregate book value of the Enova shares should be calculated by taking assets minus liabilities, i.e., shareholder equity, in which case the transaction would not have constituted a breach. The court sided with WSFS in that for the purposes of determining book value, what mattered was the aggregate book value of the assets of Enova. The court's conclusion was compelled by the plain language of the indenture, which read, "[f]or purposes of determining the book value of property constituting capital stock or similar equity interests of the subsidiaries disposed of provided in [the relevant covenant], such book value shall be deemed to be the aggregate book value of all assets of the subsidiary that shall have issued such capital stock or similar equity interest." Cash America argued from the generally accepted meaning of "book value" in the case law, which the court understandably found unpersuasive.

The court next turned to the question of remedy and specifically whether the noteholders were entitled to recoup not only the principal amount of their notes, but also the make-whole premium prescribed in the indenture. The Cash America indenture required the issuer to pay upon redemption an amount equal to the sum of the present values of the remaining principal and interest on the notes being redeemed, discounted at the Treasury Rate (as defined), plus 50 basis points, effectively providing for a make-whole premium. Cash America, as noted, maintained that the prepayment premium was irrelevant to a circumstance of breach, because in that case the only remedy of the trustee and the noteholders was to accelerate the notes and receive payment at par. The court disagreed, placing reliance upon the well-known decision of the Second Circuit in Sharon Steel Corp. v. Chase Manhattan Bank, N.A., 691 F.2d 1039 (2d Cir. 1982). In that case, the issuer, UV Industries, Inc., disposed of its assets in piecemeal fashion to a variety of buyers under a predetermined plan of liquidation. The last such disposition was to Sharon Steel, which assumed UV Industries' obligations under a series of indentures, in accordance with the successor obligor provisions of those debt documents. The noteholders challenged the characterization of Sharon Steel as the successor issuer, maintaining that UV Industries had breached the successor obligor provisions of the indentures with this maneuver. Both the district court and the Second Circuit ruled in favor of the noteholders. On the issue of remedies, the Second Circuit held the "acceleration of the provisions of the indentures are explicitly permissive and not exclusive of other remedies," and that there was "no bar ... to [the lender] seeking specific performance of the redemption provisions where the debtor causes the debentures to become due and payable by its voluntary actions."

As in Sharon Steel, the Cash America indenture had both a redemption clause requiring payment of the make-whole premium and a customary provision for acceleration upon the occurrence of an event of default. Also as in Sharon Steel, the acceleration provisions in the Cash America indenture were permissive and not exclusive of other remedies, and the default was due to the voluntary action of the issuer. Finding Sharon Steel controlling, the court held that the trustee was entitled to seek specific performance and compel Cash America to redeem the notes together with the prepayment make-whole.

In rebutting a variety of arguments advanced by Cash America, the court rejected the contention that Sharon Steel required a showing of bad faith, as where the issuer triggers an acceleration in order to avoid paying the redemption premium. The court found no such requirement in Sharon Steel and held that the only criteria of relevance was whether the issuer by its voluntary action occasioned the event of default.

Finally, the court rejected Cash America's argument that requiring payment of the premium was inequitable, would effectively destroy the use of acceleration clauses and would "upend the nation's debt markets." The court found that Cash America had prior notice that Enova spin-off could constitute a breach of the indenture. Also, the court observed, Cash America could have foreclosed the application of Sharon Steel due to voluntary breaches of the indenture by drafting provisions to the contrary.


In a nutshell, Cash America stands for the proposition that one of the remedies available to noteholders and trustees for an issuer's conscious breach of an indenture is redemption, and that such a redemption may be deemed voluntary for purposes of payment of a make-whole or other redemption premium. If the holding stands up on the appeal that is sure to follow, trustees and noteholders would be afforded another weapon in their arsenal of enforcement against actual or prospective breaches of indentures. Also, if the movement toward redrafting of acceleration clauses in the post-Momentive Performance Materials era is any guide (see Debt Dialogue, above), we might well see similar developments codifying the Cash America decision in the express language of indentures of the future.

For the moment, issuers, noteholders and trustees are advised to take heed of the additional remedial optionality being offered by Cash America. Not only might the Cash America alternative entitle holders to a make-whole premium where none would be available on straight acceleration, but the deemed redemption might not trigger cross-acceleration of other series of debt, which would ordinarily force the issuer into bankruptcy. Finally, the decision showcases the utility and efficacy of noteholder communications to an issuer warning of potential or threatened breaches. By sending such a notice in this case, the noteholder assured a balance of equities that tilted in its favor. Left open for another day and decision are the precise contours of those indenture breaches that are considered "voluntary" and therefore may give rise to a deemed redemption under the jurisprudence of Sharon Steel and Cash America.

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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