Court Finds No Independent Duty to File SEC Reports Under the TIA

Last winter, I noted the continuing saga of whether the typical delivery covenant in an indenture can be used to declare a default when an issuer stops filing its Exchange Act reports, and now we have yet another court weighing in on the topic.

The issue was put in play a few years ago by the New York State Supreme Court decision in The Bank of New York v. BearingPoint, Inc., and has been a source of concern as hedge funds and activist bondholders have sought to use leverage gained with delinquent issuers by declaring a default and seeking “consent fees” or acceleration of the debt. A federal court weighed in for the first time in Cyberonics, Inc. v. Wells Fargo Bank N.A., interpreting the delivery covenant at issue to require that Exchange Act reports be filed with the trustee only after being filed with the SEC, stating that Section 314(a) of the Trust Indenture Act did not independently provide a deadline for filing such reports with the SEC.

Now, in UnitedHealth Group Inc. v. Wilmington Trust Co., the Eight Circuit found that the issuer’s delay in filing its SEC reports (due to an options backdating investigation/restatement) did not violate the indenture covenant, Section 314(a) of the Trust Indenture Act or New York’s implied covenant of good faith and fair dealing. This decision is significant because it is the first federal appellate court ruling to date on this issue, and may serve to quell some of the efforts to exploit this covenant going forward.

In the meantime, issuers are well advised to revisit the covenants in their indentures, in particular any potential triggering of an acceleration by a breach of the delivery covenant. Further, the more restrictive covenant that calls for delivery of SEC filings to the trustee within 15 days after the company is required to file the reports should definitely be avoided, given that it essentially incorporates the Exchange Act’s filing deadlines as part of the issuer’s obligations under the indenture.

For more on this topic, check out the numerous memos in our "Debt Financing/Loans," "Trust Indentures" and "Late SEC Filings" Practice Areas. Be sure to renew your subscription now for 2009 access to TheCorporateCounsel.net.

Delaware Chancery Court Disrupts Debt Exchange Offer

‘Tis the season of debt restructuring, and by the looks of things so far, it is going to get ugly. On December 18th, the Delaware Chancery Court granted summary judgment to noteholders of Realogy, who sought to block the company’s efforts to restructure its debt through an exchange offer that would have essentially permitted subordinated noteholders to jump over more senior debt in the company’s capital structure. The case is The Bank of New York Mellon and High River Limited Partnership v. Realogy.

As noted in this Simpson Thacher memo: “Realogy Corporation, an affiliate of Apollo Management, terminated its invitations to holders of its outstanding unsecured high yield notes to exchange those notes for second lien term loans under an available tranche of its senior secured credit facility after Vice Chancellor Lamb of the Delaware Chancery Court found that the second lien term loans did not constitute ‘Permitted Refinancing Indebtedness’ under Realogy's senior secured credit facility and, consequently, the second liens securing such loans would not constitute ‘Permitted Liens’ under Realogy's senior notes indentures.”

The court only addressed the contractual claims in the summary judgment order, staying further consideration of fraudulent transfer claims. For more on this development, check out the memos in our “Debt Financing/Loans” Practice Area.

As noted in this Bloomberg article, the Realogy case is a battle of titans in the sense that it pits Carl Icahn (as bondholder) against Leon Black (owner, through Apollo Management, of Realogy). An Icahn representative is quoted as saying: “Private equity cannot just step all over debt in order to save itself.”

SEC Delivers Mark-to-Market Accounting Study

Last week, the SEC delivered the mark-to-market accounting study mandated by Section 133 of the Emergency Economic Stabilization Act of 2008.

As previewed last month at the AICPA conference, the study recommends against suspending fair value accounting standards, and, as noted in this press release, instead recommends improvements to existing practice, “including reconsidering the accounting for impairments and the development of additional guidance for determining fair value of investments in inactive markets, including situations where market prices are not readily available.”

- Dave Lynn

SEC Updates Oil and Gas Disclosure Requirements

Yesterday, the SEC announced that it had approved changes to the disclosure requirements applicable to oil and gas companies. The Commission’s approval of these rule changes is the culmination of a long running project in Corp Fin to update the antiquated oil and gas disclosure requirements specified in Regulation S-K, S-X and Industry Guide 2. The SEC’s announcement indicates that an adopting release is forthcoming.

Noticeably absent from the announcement of the rule revisions is any indication that somehow the changes are tied to resolving the financial crisis – such proclamations have become a fixture in recent SEC announcements, orders, releases and open meeting statements. It is somehow comforting to know that, with projects such as this, life goes on in the world of adopting rule changes that are simply trying to improve disclosure for investors.

Treasury Throws GMAC a Lifeline

Last night, the Treasury Department announced the completion of a $5 billion cash infusion into GMAC, with up to another $1 billion to be loaned to GM so that it can participate in a GMAC rights offering. GMAC is struggling through the process of converting to a bank holding company, which will ultimately allow the auto finance company to access more funds through the Federal Reserve system. The GMAC funding is under the newly minted Automotive Industry Finance Program, as opposed to the Capital Purchase Program used for allocating government funds to banks. (It is just me or are all of these programs starting to sound like something coming out of the Politburo?)

Like the financing for the auto companies themselves, the GMAC financing reflects tougher executive compensation provisions than those imposed in the Capital Purchase Program's bank financings. Not only is GMAC obligated to comply in all respects with Section 111(b) of the Emergency Economic Stabilization Act, the Term Sheet for the deal specifies that GMAC:

1. Shall not pay or accrue any bonus or incentive compensation to Senior Employees (i.e., the 25 most highly compensated employees including the Senior Officers), unless approved by Treasury;

2. Shall not adopt or maintain any compensation plan that would encourage manipulation of its reported earnings to enhance the compensation of any of its employees; and

3. Shall maintain all suspensions and other restrictions of contributions to benefit plans that are in place or initiated as of the closing date.

The Treasury also maintains the ability to claw back any bonuses or other compensation, including golden parachutes, paid to any Senior Employees in violation of any of the restrictions specified in the Term Sheet.

For more analysis of the executive compensation restrictions under the Automotive Industry Financing Program, check out this excellent blog by Mark Borges on CompensationStandards.com. If you don’t have a subscription to CompensationStandards.com, please try a No Risk Trial for 2009. If you have a CompensationStandards.com subscription, be sure to renew today so you can maintain your access to Mark’s blog and all of the other resources on CompensationStandards.com in the critical months ahead.

Capital Purchase Program Progress

Speaking of the Capital Purchase Program, over the last couple of weeks Treasury has indicated that it has closed $4.7 billion of investments in 92 local banks. If you want to see where all of the $162 billion invested to date through the CPP has gone, check out these Transaction Reports. I think that the Treasury should upgrade these spreadsheets into a full blown prospectus, since what this is starting to look like is a big government-owned financial institutions mutual fund.

- Dave Lynn

Nasdaq Extends its Suspension of Price and Market Value Tests

Nasdaq has announced that it filed a rule change with the SEC extending - until April 20, 2009 - the exchange’s suspension of its continued listing standards which require a minimum $1 closing bid price and minimum market value. Nasdaq is seeking the extension now, given that there is little sign of a market turnaround that would provide relief to listed issuers with shares trading below $1 or with otherwise depressed market values. In its rule filing, Nasdaq notes that since the temporary suspension took effect back in October, the number of securities trading below $1 and between $1 and $2 has increased.

Nasdaq has also proposed to change the minimum bid price required for initial listing on the Nasdaq Global and Global Select Markets from $5 to $4. In its rule filing, Nasdaq indicates that it “believes that this change will permit the listing of more companies on Nasdaq, thereby enhancing investor protection by allowing these companies, and their investors, to benefit from Nasdaq’s liquid and transparent marketplace, supported by strong regulation including Nasdaq’s listing and market surveillance and FINRA’s independent regulation.” The proposed $4 price is also similar to the recently adopted requirement for initial listing on the New York Stock Exchange.

Don’t Forget to Watch those Reps and Warranties

This Sullivan & Cromwell memo notes how the Ninth Circuit Court of Appeals recently took an approach consistent with the SEC’s position expressed in the 21(a) report regarding The Titan Corporation, Exchange Act Release No. 51283 (March 1, 2005). In Glazer Capital Management v. Magistri, No. 06-16899 (9th Cir., Nov. 26, 2008), the Ninth Circuit rejected a company’s argument that a complaint alleging securities fraud should be dismissed because alleged misstatements were contained in an acquisition agreement included as an exhibit to an Exchange Act report, rather than as part of the disclosure included in the body of the report.

As 10-K season approaches, this recent decision serves as a good reminder to look at the totality of disclosure provided by the report and the exhibits, and to consider what additional explanatory language might be necessary to clearly describe the context in which representations and warranties in an agreement should be considered.

For more guidance, take a look at our “Disclosure” Practice Area on DealLawyers.com. If you are not a DealLawyers.com member, check out a 2009 No-Risk Trial, and if you are already a member, be sure to renew now for 2009.

SEC Takes Steps to Create A CDS Exchange

You know that pesky Christmas gift that you received but did not necessarily want or need in the first place and don’t really know what to do with now that you have it? It seems that the SEC was going for that effect with its Christmas Eve “gift” for the credit default swap (CDS) market (or at least some part of the CDS market).

As I have noted before in the blog, the credit default swap market has been merrily chugging along with little or no oversight from the Federales for many years now, laying the foundation for the financial equivalent of "nuclear winter" all along the way. While many have gone out of their way to note the systemic risk that these instruments have created throughout the financial system, perhaps not surprisingly CDS have only received focused regulatory attention in the past three months or so - pretty much since the stuff has hit the fan. [Other than, perhaps, the SEC’s prescient decision in June 2007 to permit trading of credit default options on the CBOE – a great way to spread some credit default exposure to retail investors who didn’t have enough already through their money market and mutual funds.]

Now the SEC has announced that it has granted temporary exemptions to allow an organization named LCH.Clearnet Ltd. to operate as a central counterparty for CDS. Further, the SEC has established (by order) an automated trading system approach for any exchange created for the purpose of trading certain CDS. All well and good, except for the fact that market participants may not have thought that they needed any such exemptions given the question of whether in fact CDS are securities subject to SEC jurisdiction. Clearly, the philosophy at play here is: “If you build it, they will come”

The SEC’s current actions are also limited by the continuing effect of that brilliant legislative initiative from sunnier days otherwise known as the Gramm-Leach-Bliley Act, which specifically excludes both non-security-based and security-based swap agreements from the definition of security under Section 3(a)(10) of the Exchange Act. The SEC points out that this inconvenient provision will continue to apply, so the Commission’s actions will only apply to those CDS that are not swap agreements.

It seems more and more likely now that the question of how to deal with CDS and the broader question of what to do about the larger OTC derivatives market will be high on the legislative agenda as regulatory reform picks up steam in the coming months.

- Dave Lynn