Covenants – Debt Restrictions Outline

F. Debt Restrictions

Petrohawk Indenture, Section 4.3

Freeport-McMoran Indenture, Section 4.03

Northwest Note Agreement, Section 10.1

Newpage Credit Agreement, Section 6.8, 6.1

Wilmington Trust Co. v. Aames Financial Corp., 764 N.Y.S.2d 3 (P. #1)

Covenants:

• Debt covenant: Ratio Test, Structural Issues, Problem Area: Consolidated Net Income, Problem Area: Conversions, Ames Financial and WALM

• Maintenance Covenants: Newpage and Northwest

• Asset Sale Covenant: structure an purpose, thresholds

Debt Covenant Overview

• Purpose and Structure

  • Public Debt: Incurrence Covenant

  • Structure:

    • Defined term: Indebtedness

    • Ratio Test (Coverage Ratio)

    • Baskets: Incurrence of debt in baskets is permitted even if ratio test not satisfied

  • Bank Debt, Private Placements: Maintenance

    • Ratio Test has to be satisfied always (or quarterly)

    • Baskets make no sense (and are not present)

• Maintenance versus Incurrence versions

• Definition of Indebtedness

  • What is generally included: Financial debt

  • What is generally excluded: Operational debt

    • E.g.: PH (1)(c) exclusion

  • Special rules for:

    • Disqualified Stock

    • Guarantees

    • Liens securing debt of others

• Problem Area: Refinancing

  • Special Basket, e.g., PH 4.03(b)(5)

  • Rationale: no worse off

  • Conditions – PH

    • Must refinance specific debt

    • Why not clause (6), (10), (12)?

    • Principal amount

    • Final Maturity: why care?

    • Weighted Average Life to Maturity: why care

    • Seniority (clauses 4 -6)

• Problem Areas: Emptying Baskets, Intra-Company Debt, Ratio Test, Consolidated Net Income, Conversions

Petrohawk 4.03 Incurrence of Indebtedness

• (a) Ratio Debt:

  • Ratio test applies only to company and Guarantor (rationale: structural seniority)

  • Can only incur debt only if Fixed Charge Coverage Ratio > 2.25:1

    • Fixed Charge Coverage Ratio: earnings to interest payment ratio

    • Company is earning at least 2.25 of interest payment then can incur additional $1 debt (also determines whether co. can do other things, e.g. make restrictive payment, merge)

    • Incurrence covenant “create, incur, issue, assume, guarantee or otherwise become directly or indirectly liable”

  • Easier to have maintenance covenant “Certain debt/equity ratio, ratio of fixed charges has to be complied with every quarter” would not need any basket debts

• (b) Basket Debt:

  • Debt can incur even if not complied with the ratio debt would affect fixed charge coverage ratio

  • Ratio Debt is always better than Basket Debt (which reduce your ability to incur other debts)

• (c) If you have item of debt that can fall under different categories where to put it?

• Fixed Charge Coverage Ratio’s definition incorporated many other accounting elements

• Definition of indebtedness

  • Includes, e.g.

    • money borrowed and Indebtedness evidenced by notes, debentures, bonds or other similar instruments for the payment

    • reimbursement obligations under letters of credits

    • all liabilities of guarantee

    • indebtedness secured by a lien

    • Disqualified Stock

  • Excluding operational liabilities, e.g. to suppliers for goods, tax authority for taxes

    • This gives co. control over compliance only when operation debt incurred to an extend that the company need more money would be counted as indebtedness

Refinancing Indebtedness [Petrohawk 4.3(5)]

• “the incurrence by the Company or any of its Restricted Subsidiaries of Permitted Refinancing Indebtedness in exchange for, or the Net Cash Proceeds of which are used to refund, refinance or replace, Indebtedness (other than intercompany Indebtedness) that was permitted by this Indenture to be incurred under paragraph (a) of this Section 4.3 covenant or clause (2), (3), (4) or (13) or this clause (5) of this paragraph (b)”

  • Requires proximity in time or more?

• 3 Conditions of the refinancing Indebtedness:

[New debt (refinancing debt) from perceptive of bondholder, cannot be worse than old debt]

1. fall under definition of “Permitted Refinancing Indebtedness”

   • means “any Indebtedness of the Company or any of its Restricted Subsidiaries issued in exchange for, or the Net Cash Proceeds of which are used to extend, refinance, renew, replace, defease or refund other Indebtedness of the Company or any of its Restricted Subsidiaries (other than intercompany Indebtedness); provided that:

     • “used to extend, refinance, renew, replace, defease or refund”

       • Unclear when and whether an amendment is a refinancing:

       • If amendment is not refinancing can evade (2) and (3)’s restrictions

       • e.g. does reducing the maturity of existing debt or interest rate or creating different terms amount to refinancing?

   • (1) principal amount doesn’t exceed the premium of the indebtedness that has been refinanced

   • (2) Maturity date

     • “(a) if the final maturity date of the Indebtedness being refinanced is earlier than the final maturity date of the Securities, the Permitted Refinancing Indebtedness has a final maturity date no earlier than the final maturity date of the Indebtedness being extended, or

       • Old debt refinanced cannot mature after the new debt

       • Addresses the time dimensional priority: debt that matures earlier may get paid earlier, unless insolence between that debt payment and maturity of your debt (earlier debt would get de facto priority)

       • Bondholders would only care people ahead of them, and how far they are ahead of you (in event of bankruptcy) – if behind you, do not care how far they are behind you

     • (b) if the final maturity date of the Indebtedness being refinanced is later than the final maturity date of the Securities, the Permitted Refinancing Indebtedness has a final maturity at least 91 days later than the final maturity date of the Securities”

       • Maturity date of the new debt must be at least 91 days after old debt’s maturity date (as bankruptcy law may recoup payments within 90 days)

       • Maturity doesn’t affect payment, but if debt matures and paid prior to bankruptcy 90 days where company can be recuperated after 90 days, debt being paid is paid in full, and you would not be paid in full

       • If old debt is behind you new debt should...

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