Nowak HighYieldOfferingsBook

7/28/2019 Nowak HighYieldOfferingsBook

1/170

Translation Services >Electronic Document Distribution >Investor Relation Services >

hics >Financial Printing >EDGAR Services >Securities Law Library >DataSite >Virtuervices >Facilities Management >Imaging and Coding >Litigation Support Services

HIGH YIELD OFFERINGAn Issuers Perspective

M E R R I L L C O R P O R A T I O N

Mark B. Tresnowski and Gerald T. Nowak

Kirkland & Ellis LLP

THE


2/170

Established in 1968, Merrill Corporation is a privately heldfinancial document management company providing a widevariety of services for private and publicly traded companies.

Why Merrill?I More than 4,200 professionals in 60 offices around the world. State-of-the-art

conference centers designed to streamline the most complicated and intensivetransactions.

I Merrill is dedicated to improving service through technology. Merrills ITexpenditures rank in the top 25%, when benchmarked against other financialservice companies.

I Our customer service professionals have an average tenure of 10 years

experience and have extensive SEC knowledge.I 24/7 customer support

Merrill Services Include:

I Financial Printing Transactions

I SEC EDGAR Filings

I Section16Direct

I

DataSiteI Translations Services

I Litigation Support

I Brand Management

I Reprographics

I Commercial Printing

I Annual Report Services

M E R R I L L C O R P O R A T I O N

Corporate Headquarters

One Merrill CircleSt. Paul, MN 55108

800.688.4400

www.merrillcorp.com


3/170

THE HIGH YIELD OFF

An Issuers Perspec

Mark B. Tresnowski and Gerald


4/170

Copyright 2004 by

Mark B. Tresnowski and Gerald T. Now

ALL RIGHTS RESERVED

No part of this book may be reproduced or transmitted in a

means, electronic or mechanical, including photocopying,

information storage and retrieval system, without the writte

authors.

Merrill CorporationPublications Department

One Merrill Circle

St. Paul, Minnesota 55108

(651) 698-1865

ISBN 1-877927-46-5

Merrill Corporation products are designed to provide accur

information with regard to the subject matter covered The


5/170

CONTENTS

INTRODUCTION ....................................................

CHAPTER I

GEARING UP FOR THE OFFERING ..................

A. PREPARING THE COMPANY ..........................

1. Financial Statements......................................

2. Company Description ....................................

3. Due Diligence ................................................

B. ASSEMBLING THE TEAM ...............................

1. Company Management ..................................

2. Investment Bankers........................................

3. Company Counsel..........................................

4. Initial Purchasers Counsel ............................

5. Auditors .........................................................

6. Trustee ...........................................................

7. Financial Printer.............................................

C. EXPENSES ..........................................................

CHAPTER II

MANAGING THE PROCESS.................................


6/170

THE HIGH YIELD OFFERING

CHAPTER IIITHE OFFERING MEMORANDUM .....................

A. BOX SUMMARY................................................

B. RISK FACTORS..................................................

C. PRO FORMA FINANCIAL DATA ....................D. MANAGEMENTS DISCUSSION AND ANAL

E. BUSINESS ...........................................................

F. MANAGEMENT; CERTAIN RELATIONSHIP

G. DESCRIPTION OF OTHER INDEBTEDNESS

H. DESCRIPTION OF NOTES ...............................

I. OTHER.................................................................

CHAPTER IV

THE CREDIT PARTIES .........................................

A. THE ISSUER .......................................................

B. GUARANTORS...................................................

C. NONGUARANTOR FOREIGN SUBSIDIARIE

D. RESTRICTED SUBSIDIARIES..........................E. UNRESTRICTED SUBSIDIARIES....................

CHAPTER V


7/170


8/170


9/170

APPENDIX CSARBANES-OXLEY ACT OF 2002.......................

I. Significant Provisions Applicable to High Yield I

II. Significant Provisions Inapplicable to High Yield

APPENDIX D

TYPICAL DISCLOSURE RELATING TO EXCH

OFFER; REGISTRATION RIGHTS.....................

APPENDIX E

QUESTIONNAIRE FOR OFFERING MEMORA

APPENDIX F

SAMPLEEXXON CAPITAL LETTER TO SEC ..

INDEX .................................................................


10/170


11/170

THE HIGH YIELD OFFER

An Issuers Perspective

Mark B. Tresnowski and Gerald T. N

INTRODUCTION

High yield debt is an integral part of the capital s

companies. Its principal benefit to the issuer is to pro

financing to issuers of less than investment grade cre

the financial covenants and many of the other restrictin traditional credit facilities. Its principal benefit to i

name would imply, is a high interest rate, or yield, aspossibility of capital appreciation as the credit quality

improves over time. Because of these mutual benefitsinvestors, high yield notes have become an important

of securities available for purchase and sale in the cap

The high yield debt, or junk bond, industry has

checkered past. In the early to mid-1970s high yield

issued by companies, known as fallen angels, that f

investment grade rating after the bonds were initiallybroad-based high yield debt market subsequently em

i d h i d i b i b l


12/170


events brought the high yield debt industry into the spwas the cause clbre of the junk bond king, Michaalleged insider trading and stock manipulation schemwith the equally notorious Ivan Boesky, became endufreewheeling greed is good 1980s. The second eveof the savings and loan industry, which many blamed

bond portfolios that savings and loan institutions heldscandals were not a direct indictment of the economidebt in the capital markets, popular culture has since

bonds with these infamous events.

Since the early 1990s, the high yield market has u

expansion, made possible in large part by regulatory later in this book. A Thomson Financial Securities Dthat the total value of high yield debt offerings in 200approximately $123.2 billion. This contrasts with a 1Lufkin & Jenrette study where the combined value of

preferred stock offerings that year totaled only $12.3

The term high yield offeringdescribes an offerinvariety of circumstances, with the common denominaissuance of debt under an indenture by an issuer of legrade quality. These offerings can be, and often are,

by established public companies that, for one

do not carry an investment grade rating; by private companies that are looking to reor

structure; and

to provide financing for a leveraged buy-out.


13/170

If you are reading this book, chances are that youconsidering issuing a series of high yield notes. This clear away some of the mystery surrounding the termthe offering process itself. High yield notes are comp

professionals in the field sometimes assume too muchpart of the CFOs and other corporate executives with

Inside baseball type jargon runs rampant, with termandA/B exchange thrown around as if they were self

primary audience for this book is the CFO, who needterms of the notes and the mechanics of the offering the lofty 30,000-foot level where the CEOs perch weeds where we lawyers dwell, but rather from the

foot level where key financial and structuring decisiWe hope that by approaching the subject at that levelof maximum use not only to the CFO, but also to tho

by helping to clarify a number of issues that, by theirtoo complex to describe in everyday terms.

A high yield offering can generally be divided in

Preparing the offering memorandum;

Negotiating the terms of notes; and

Effecting the post-transaction registration of

This book is generally organized to follow the chsequence of events that take place in a high yield offe

Chapter I: Gearing up for the Offeringdiscussesrequirements for accomplishing a high yield offeringpractical steps the company can take to make the pro


14/170


Chapter IV: The Credit Parties describes the varmembers of the issuers corporate family can be treatindenture, and why.

Chapter V: The Covenant Package describes the included in a high yield indenture.

Chapter VI: The A/B Exchange describes the pronotes will be registered with the SEC after the initial has been completed.

Chapter VII: Living with the High Yield Indentur

number of additional issues associated with living wiindenture once the notes have been issued.

Chapter VIII: The Sarbanes-Oxley Actdescribes the Sarbanes-Oxley Act of 2002 upon the obligationsyield notes.

Chapter IX: Rule 144A describes the exemption funder the Securities Act provided by Rule 144A.

We have also included the following appendices if you want to dig a little deeper:

Appendix A: Annotated high yield indenture cove

Appendix B: Sample timeline for high yield offeri

Appendix C: Significant provisions of Sarbanes-Oto high yield issuers.

Appendix D: Sample prospectus section describingmechanics.


15/170


16/170


Financial statements, more so than other informacompany, rapidly become stale. The requirements forfinancial statements are set forth in Articles 3-01, 3-0Regulation S-X. As a general matter, an offering memhave three years of audited financial statements, an aof selected financial data, which need not be audited,

interim period financial data for the period ended no (or sooner for accelerated filers) from the date the ofis published. Of course, the technical requirements fostatements themselves are contained in the accountinway of gross understatement, are voluminous.

One particular accounting requirement that appliofferings is contained in Article 3-10 of Regulation Sfinancial statements for guarantors. In short, separateare required for each guarantorunless such guarantorthe issuer (or, in the case of a parent guarantor, the isowned by the parent and it is the parents financial st

presented), the guarantee is full and unconditional anjoint and several. If all of those conditions are met, sestatements need not be prepared. However, the issuerstatements must contain a footnote showing condensefinancial information for the issuer, the parent compaall guarantor subsidiaries as a group and all other subas well as consolidating adjustments and total consolPotential issuers should not underestimate the time itthis footnote. Companies that report on a consolidatedistinguish among their subsidiaries in any material wwhat amounts to a condensed set of separate financia


17/170

GEARING U

occurred or is probable. There is no clear guidanceacquisition is probable. Most practitioners would tellacquisition is probable if a definitive agreement or bihas been signed andapproved by the boards of directcompanies. Short of that, it is a judgment call.

The financial statements required for an acquisitithe significance of the acquisition target. The signiacquisition target depends of the following condition

The companys equity in the income from cobefore income taxes, extraordinary items andof a change in accounting principle of the tar

of such income of the company on a consolidmost recently completed fiscal year.

The companys proportionate share of the totarget as a percentage of the companys totalas of the end of the most recently completed

The companys investment in the target as a companys total consolidated assets as of therecently completed fiscal year.

If none of the conditions exceeds 20%, financial target company are not required. If any of the conditi

but none exceeds 40%, financial statements are requirecent completed fiscal year and any applicable interithe conditions exceed 40%, but none exceeds 50%, fare required for the two most recent fiscal years and interim periods. Finally, if any of the conditions exce


18/170


One final, but often overlooked, financial statemapplies to offerings ofsecuredhigh yield bonds. UndRegulation S-X, if the assets of a guarantor subsidiaror more of the size of thesecured offering(not the cofinancial statements of that guarantor are required. Nsecured high yield offerings are still not the norm, the

rare in recent years.

2. COMPANY DESCRIPTION

One of the most time-consuming aspects of execuoffering is the preparation of the offering memorandu

public company, this can take quite a bit of time, as tbankers will invariably want to modify and often expexisting public disclosure to help in their marketing ecompanies, however, there will be a sensitivity to chadisclosure, as it can call into question the accuracy orthe original disclosure at the time it was issued.

For private companies, the challenge is to craft anand sexy description of the business in a timely andThe efficiency of the process can be enhanced by coldocuments that contain descriptions of the company oservices and forwarding them to company counsel eaThe best source document is often an information me

in connection with the sale of the business, for an acqdeal or in connection with the syndication of a senioruseful are marketing materials or consultants reports

Company management may be tempted to put pe


19/170

GEARING U

gives and takes of the drafting process from the uselebickering over language that often arises. Language dexecutives, however, can pose a psychological challeworking group sessions, with some members reluctanclient relationship reasons, and some members of mato change it absent manifest error, for their own perso

reasons. In general, for all members of the working gauthorship is an emotion best saved for the finished p

3. DUE DILIGENCE

Collecting due diligence materials is among the bcompanys time in preparing in advance for a high yiinvestment banks counsel (as well as issuers counsewant to see a comprehensive set of due diligence docdrafting process gets under way in earnest, the compa

better spent focusing on the draft, rather than on due counsel can provide the company with a sample due to aid in the collection of due diligence materials. Thcounsel should be willing to review the materials orgthat checklist and supplementally request any materia

be missing. Virtual data rooms that organize and makrelevant documents over a secure Internet connectionuseful in minimizing the imposition on the company

process, in making the due diligence process as efficiin establishing a clear record for everyones benefit.

It is worth noting that, as described in the introduyield offerings are done at least initially via a privatecalls into question the role of due diligence in such an


20/170


courts have ruled that neither Section 11 nor 12(a)(2)under those circumstances. Nonetheless, in keeping wand given the need to fulfill the first objective of comdisclosure, the participants act as though such liabilitdue diligence for a privately placed high yield offerinindistinguishable from that conducted for a registered

It is important not to give in to the temptation to diligence to a low point on the priority list. In additioliability defenses that can be established through the diligence effort also has a direct impact on the draftindocument. Few things are more disheartening in an oneed to redraft large sections of the document only be

brought new facts to light late in the game. The invesalso be using the results of the due diligence investigtheir presentation to their internal commitment commtransaction will go forward unless these presentationresponsive to any concerns that these committees ma

B. ASSEMBLING THE TEAM

Nothing is more critical to ensuring the success ooffering than assembling the right team, both in termmanagement and external advisors. The quality of thethe success of the offering are, of course, dependent o

offering process itself is long and extremely intense. will be spending a great deal of time with your teammselect advisors with whom you believe you would beworking, while at the same time realizing that a goodshould not override the need to get the most experien


21/170

GEARING U

said, management will have hired a set of professionthese matters, and it is entirely appropriate to rely on the work as possible. At the end of the day, running tmanagements most important task.

Selecting the appropriate company personnel to wis one of the key decisions company management wiloffering process. For smaller companies, the CFO, anwill typically take a leading role. For larger companiand/or controller will often lead the charge. In either law and accounting departments will also play a key that the persons charged with the responsibility for lealso have the authority to make decisions in real timeknowledge base to answer factual questions about thefinancial results and position. Whoever is charged wi

process will find it to be extremely time-consuming atheir time accordingly.

Aside from the company personnel leading the co

key executives will have to play some role as well. Tfor due diligence and other reasons, will often want tsales, marketing, operations and business planning an

personnel and, if appropriate, technical and regulatorminimize disruption to the business, at some point inafter one or two drafting sessions, it may make sense

long meeting at the companys headquarters during wexecutives in each relevant function make a presentatgroup, followed by a question and answer session. Inentirely appropriate for the companys senior executibut care should be given to allowing the various man


22/170


One nomenclature issue that can cause confusionyield offering is what the investment bankers are callregistered underwritten public offering, the investmeunderwriters. But because that is a loaded term forliability purposes, the practiceis to call the investmenunregistered high yield offering initial purchasers.

awkward phrase refers to the fact that, as described ininvestment banks actually initially purchase the notesthen on-sell them to their accounts (who the uninitiatincorrectly, think of as the initial purchasers). To hused to this nomenclature, we will refer to the investminitial purchasers throughout the rest of this book.

When selecting the initial purchasers, key considtheir track record, their industry experience, their repother business relationships with the company, i.e., ththe companys senior credit facility or other relationsit is has become a lightning rod for controversy in recresearch analyst strength of a firm in the companys ikey consideration. If your offering is being taken to memploys a well-known and respected industry analysthat can significantly enhance the success of the trans

position the company well thereafter.

The initial purchasers style in managing the proc

tremendous difference in the efficiency of the proceson management. Some initial purchasers will instructits counsel to draft the offering memorandum, offerinadvice after the fact and leaving the company and its again and again until it satisfies the initial purchasers


23/170

GEARING U

3. COMPANY COUNSEL

Hiring experienced company counsel is also key

high yield offering. Company counsel has primary re

initially drafting the offering memorandum and redradrafting session. The quality of company counsels w

have a major impact on the efficiency of the drafting

Nonetheless, management should understand that no work product is produced, each drafting session will

changes, as personal preferences differ, nuances are d

additional facts come to light.

Company counsel will also take a leading role in

indenture and other transaction documents on behalf described in more detail in Chapter V, the negotiation

indenture is more art than science, and requires in-denot only of how a high yield indenture works, but als

of the market for various terms and conditions contai

and a thorough appreciation of the companys current

plans. Initial purchasers and their counsel will invariaargument that the market will not accept a particula

provision. When faced with that comment, there is no

depth of experience of the companys legal counsel i

resistance.

Unlike the initial purchasers, whose success or fa

in the transaction itself, company counsel has a muchthe longer-term implications of the work product pro

transaction. The offering memorandum and subseque

statement, for example, will come under intense scru


24/170


of successfully raising money to fund a companys grassured that if these scenarios ever do occur, the com

can in large part be dictated by how well its counsel d

the indenture and structuring the transaction. The firs

all levels will do when a company falters is have thei

scrutinize the indentures and other credit documents

the armor.

4. INITIAL PURCHASERSCOUNSEL

The role of initial purchasers counsel in the offe

legal due diligence effort, participate in all drafting s

negotiate the high yield indenture and other transactiobehalf of the initial purchasers. Management will oft

extensiveness of the due diligence requests the initial

will make. The requests tend to be standard, and the c

choice but to comply. Experienced company counsel

company as to whether the requests are reasonable ancircumstances.

Initial purchasers counsel is, obviously, hired bypurchasers; however, company management can choo

influence in their selection. Some frequent issuers wi

preference for a firm that has previously represented banks in connection with such issuers public or priv

view toward reducing the due diligence burden. The will typically take that preference into account as theinvolved will also inure to their benefit.

5 AUDITORS


25/170

GEARING U

The accounting team is generally the same as thacompanys annual audit, but virtually all major accouon specialists who can assist with issues that may arian offering and, if necessary, an SEC review of the fiin the registration statement. As with initial purchasebrand name accounting firms lend credibility to the

savings realized by using lesser known firms may bethe reliability associated with the better known firms

6. TRUSTEE

The trustee is an important, if inconspicuous, plaoffering process. The trustee should be selected for itrelationship with the company and willingness to supCompany counsel can often suggest a suitable trusteedoes not otherwise have a view on its selection.

7. FINANCIAL PRINTER

The financial printer plays another important rolprocess. The working group will spend a fair amountprinter and the printers responsiveness will have conefficiency with which the working group can complethe quality of the printers work product will have un

bills ultimately presented by the companys other pro

given time, the company may have three or more lawnumber of accountants all of whom bill by the hounot trivial sitting at the printer waiting for pages to

printers efficiency can have a significant impact on and accounting expenses


26/170


money by assuring that the process itself is efficient. counsel to the issuer and counsel to the initial purchain high yield offerings, they will virtually be able to cothers sentences (and, more importantly in the case orespond with an appropriate and persuasive retort). Tand know how they usually get resolved. If one or th

process, however, even lower billing rates will not mcountless hours it will take to reinvent the wheel onEducation is an achievement best earned on someone

More specifically, it is customary for the issucounsel, the accountants, the printing expenses, all fiand federal agencies, ratings agency fees and some o

show expenses. It is customary for the initial purchascounsel and their portion of the road show expenses. allocation remains true both of offerings that are succand offerings that terminate before pricing. It is a hismarket (also true of underwritten public offerings) thterminates after pricing and before closing, the compinitial purchasers expenses, including counsel. This occurrence for many reasons, and the company can tathe regrettable fact that, in such a circumstance, payinwill be the very least of its problems.


27/170

CHAPTER II

MANAGING THE PROCE

A. THE ORGANIZATIONAL MEETING

The high yield offering process begins in earnestorganizational meeting. At this meeting, all membersgroup will meet each other and set the schedule for co

process. The proposed schedule will typically be som

aggressive and unachievable. Just how aggressive wicompanys need for capital and the initial purchasersmarket. Company executives should realize that the ioften represents the best possible outcome and none will want to be the first to question its achievability. Ais to start with an aggressive but not impossible timet

to meet it, but know that adjustments often must and Rushing the process may seem like the best thing to dtimes be necessary but the cost of doing so can benot be evident until problems arise well past the clositransaction.

One critical timing issue typically discussed at th

meeting is the availability of current financial statemstatements go stale under applicable SEC rules 135accelerated filers) after the date of the latest balance company and its auditors must be prepared to update


28/170


Company counsel will prepare the initial draft, hopefthe company in the form of any documents previouslcompany, including other private placement or inform

bank books, consultants reports or marketing matericounsel is also aided immeasurably by the initial purcapplicable precedent, both within the industry for co

companies, and other offering memoranda prepared binitial purchasers involved. Often, over the course ofinitial purchasers will show a marked preference for way they did in a particular deal. Identifying that dea

process will allow company counsel to get one step aincreasing the efficiency of the process.

The working group will then settle in for a numbsessions. There are basically two ways to approach thtraditional model is to have full-day, all hands draftinweek, with the intervening time split more or less evecompany counsel redrafting based on the meeting andworking group reviewing the revised document. Thu

session on a Thursday, company counsel would redrathe weekend, and distribute the draft on Monday. Thewould then review the draft on Tuesday and Wednesthe following Thursday. Note that trying to expedite inevitably result in shortchanging either company cotime, diluting the quality of their work product, or the

review time, resulting in comments that are not fully either case, the efficiency of the process actually sufforganizational tool that the authors have found helpfuday of the week for scheduling all drafting sessions. T


29/170

MAN

the attention given to certain sections of the book thathe weight of the all-day drafting session. The downstheir frequency, these sessions must occur by phone some of the intimacy of the physical meeting. Our exoffering process offers plenty of opportunity for intimchance to spend twelve hours locked in a conference

of your new closest friends is seldom met with regretUnder either approach, the drafting process will t

four to six weeks. For issuers that are not currently Scompanies, finishing the offering memorandum in le

possible, but rare.

C. DUE DILIGENCE

The due diligence process consists of three partsdiligence, legal due diligence and financial due diligediligence is typically accomplished with one or moremanagement presentations regarding the companys b

and strategy. Note that this often includes a Powerpoprepared by management. Issuers should be careful thoffering memorandum be consistent with that presentto defend the inconsistencies. It is fair to say that the diligence process in effect continues throughout the dfor this reason it may be necessary to bring in manag

on issues covered at the initial presentation and in neorder for the disclosure document to be accurate and

Legal due diligence consists of document reviewpurchasers and company counsel. Initial purchasers


30/170


understanding, and therefore better ability to sell, theability to service the high yield notes. Financial due dheart of many of the issues and concerns associated wsecurities and it is far more common for liability claiminaccurate or incomplete financial information than oAs such, it is a mistake to exclude the lawyers from t

and experienced securities lawyers will be facile withaccounting issues and can often help identify and res

D. NEGOTIATING THE INDENTURE

Negotiating a high yield indenture is unlike any owith which the company is likely to have been involv

practice is not to negotiate the indenture itself; rathersection of the offering memorandum entitled descripsection will set forth, verbatim, the relevant covenantwith the remainder of the indenture consisting of so-The exact terms of the notes as set forth in the indentand important to risk summarizing or paraphrasing th

document so, while it may seem odd to essentially duextensive language in the offering document, it is virmarket practice to do so.

The more substantive difference in these negotiatand incentives of the various parties are less than clea

company, for example, clearly wants maximum flexisame time wants the notes to be marketable, and knowmarketability will suffer if the note terms differ mateexpectations. The initial purchasers primary interestkeeping the indenture within the range of marketabili


31/170

MAN

the company to prepare a mark-up that addresses the and brings the description of notes up to what, in comexperience, is a market deal. The parties will then n

posture that basically has the company and its counseadditional flexibility and the initial purchasers and tresisting those requests. Only at the very end of the n

party recognize the subtext of their respective intereson the part of the company, and their role as financiaof the initial purchasers; once that epiphany takes plato resolve their differences quickly and without unne

Involvement of the companys CFO and financiastaff in this process is essential. Rarely will company

anticipate all of the specific flexibility the company ncalled boilerplate can be important in this regard andto spend time thinking about all of the reasonably fortransactions and activities in which the company maythese under the proposed note terms to see whether thA few of the areas worth exploring in this regard are

Future acquisition, joint venture and investm

Future financing plans including equipment fleaseback transactions and other secured deb

Debt or debt-like arrangements incurred in th

business;

Future operations outside the United States;

Need for letters of credit and other credit enh


32/170


the difficulty of getting waivers under indentures, failanguage right in an indenture can dictate corporate acome in ways that were not anticipated.

E. THE ROAD SHOW AND PRICING THE

The road show is a seemingly interminable series

meetings that occurs in a seemingly impossibly comptime. Typically lasting from three days to two weeksmake up to six different presentations in one or morewill typically move onto one or more different cities And then repeat, repeat, repeat. The best that can be sdoes end, and that its success can and usually will

the offering.

Lawyers are typically not invited to attend the ropresentations or comment on the presentation slides. it would be good if the voice of the CFOs consciencresemblance to that of company counsel as demonstr

process.The road show culminates in pricing the offering

means executing the purchase agreement. While the con the road show, company counsel will have been n

purchase agreement on the companys behalf. The tepurchase agreement are such that they do not vary gr

transaction to transaction. The most significant aspecagreement, beyond the price of the securities, is the dtemporary change it engenders in the relationship betand the initial purchasers. Prior to executing the purc


33/170

MAN

F. CLOSINGThe closing of a high yield offering is relatively u

most significant aspect of the closing is the necessityFailing to close in a timely fashion is so extraordinaryseriously contemplates it. The notes will already be trthe parties will be bound by the purchase agreement,

purchasers and the company will feel, quite rightly, tare on the line.

The mechanics of closing are as follows: the nighand initial purchasers counsel meet to collect all relewhich by that time have been finalized and, for the m

During that pre-closing (or very early on the closing purchasers and their counsel will initiate a bring-dowin which they will ask the company whether there havdevelopments since the pricing. Hopefully, the honesno, and the call will be short. On the morning of pr

purchasers will wire the funds, the trustee will authen

the company, the trustee and the initial purchasers wiinstruct The Depository Trust Company, or DTC (telectronic records of the notes), to release the notes. Ihappens before noon eastern time.

A word of caution regarding closing: the one piecant be faxed and cant be done without is the DTC

Representations. While not a complicated documentparticular about having an original copy in just the prpossession with an original signature prior to the closcompany counsel will ensure that this is taken care of


34/170


35/170

CHAPTER III

THE OFFERING MEMORAN

The offering memorandum will generally look veprospectus for a registered public offering. For a firscontain all the items required for a prospectus containRegistration Statement on Form S-1. For a seasoned limited to those items required for a Registration Statincluding documents incorporated by reference. It is

is the case. The answer is two-fold: first and foremosmarket demands. While the notes issued in a high yieinitially done so as a private placement, the notes aretraded much as they would be if they were registeredeventually be registered in an A/B exchange transactChapter VI. Neither the company nor the initial purch

comfortable issuing the notes pursuant to an offeringdiffers much from the prospectus by which the notes registered. When we describe the technical requiremeof the offering memorandum in the following pages, the requirements that would apply as a technical matwere registered; we are also describing the requireme

a practical mattergiven market practice with regard initial offering done through the offering memorandu

Given the substantial similarity between the privmemorandum and the prospectus for a registered offe


36/170


diligence defense (as opposed to an ignorance defensinvolved, including directors and officers.

Whether the 10b-5 liability that attaches in the prconverted into Section 11 liability in an A/B exchangquestion, given that the only consideration given in ththe private note with its inherent 10b-5 remedy attach

policies behind Gustafson, Exxon Capitaland Rule 1(discussed in Chapter IX) would each suggest for its investors in high yield notes do not have or need the psecurities laws beyond Rule 10b-5, it is difficult to rethat completing a registered public offering, i.e., the Anothingwith respect to the issuers liability, or that, a

offering, it is not attended by the remedies available bpurchasers in a registered public offering. Yet when pprecise question, a least one court, in theIn re SafetyBondholders Litigation,dismissed a Section 11 claim(1) no damages could be demonstrated because the extwo sets of identical bonds and (2) there was no relia

investors decision to exchange one set of bonds for depend on the veracity of the registration statement. Wdistinctions are important to lawyers and can be impooutcome of securities litigation, as a practical matter,to take as much care in the preparation of an offeringin the initial sale of the notes as in the preparation of

in the registered A/B exchange.

Finally, a word about plain English. Under its fArthur Leavitt, the SEC adopted a set of rules and popresentation of information in a prospectus generally


37/170

THE OFFER

understood but that counsel will tell you must be spelexplained. As an extreme example of this, one of the experience of having the SEC staff object to the termoffering by a wireless communications company! Plathe law of gravity . . . it is much easier to obey than to

A. BOX SUMMARYOften referred to as the box, because of the box

surrounds each page of the summary, the box summamany to be the most important part of the offering mit is often the only part that is read by investors. The btypically only six to eight pages long, will occupy up

spent in drafting sessions. Be heartened that the otherdont receive the same level of attention. If the CEO managers want to limit their time in reviewing and coearly drafts of an offering document, this is the sectioshould focus. What is written in this summary, especthe companys business and strategy, will become the

the remainder of the document but for the roadshow the entire marketing effort. It is also not unusual to fiof this section can be a healthy undertaking worthy omanagements attention that may even evolve into a rrefinement of the companys actual business strategy

The technical requirements for the box summaryItem 503 of Regulation S-K. A quick read of Item 50there are no technical requirements. The most compecomes from the instruction to Item 503(a), which rea


38/170


to the selected financial data, although it commonly etwo years of the five-year period required in the selecsection or condenses the line items presented. Pro forinformation is also commonly presented in one or modata for the latest twelve-month, or LTM, period.

B. RISK FACTORSThe box summary will be immediately followed

section, typically seven to fourteen pages in length. Itcontain risks that seem too obvious to mention and riremote to be of any concern. There are many reasons

particular risk factor, not least among them the fact th

competitors or another company in a comparable lineincluded a similar risk factor. The quality of disclosuto rest on an objective or reasonable man standarhypothetical prudent investor would consider importadecision. It is hard to argue that a risk would not meethree of four offering documents for similar business

risk.

The risk factors will start or end with three or fourelating to the notes and the offering. These will rangabout high leverage, to risk factors about fraudulentto risk factors about the market for the securities. The

often be copied to a large extent, word for word, fromThis is not only typical, but appropriate, because the structural and are, in fact, the same from deal to dealinformation necessary from the company will be spesuch as total debt as of a given date or the ratio of ear


39/170

THE OFFER

The technical requirements for risk factors are alItem 503 of Regulation S-K. Once again, the requiremmost significant requirement is that the risk factors d

box summary). Again, as a technical matter, risk factrequired. Universal market practice, however, is to inOmitting the risk factor section is not a practical opti

Company executives are often tempted to mitigatindividual risk factors or otherwise tone them down. good idea. People often say that risk factors are che

because by simply disclosing these risks you can greapotential securities law liability that might otherwise should fall subject to them. That is not really an accu

risk factors dont insure anything. Think of them as trope bridge hanging over a deep canyon. You dont wtoo heavily, but you wouldnt want to do without them

In all cases, risk factors should be tailored to refldiscussed during the due diligence process. When the

reporting company that has risk factors in prior offeri34 Act reports, you will still want to examine the risand make sure that it is both up to date and reflectivehave been identified by the working group for the offsecurities plaintiffs lawyers will use a history of uncas evidence for the proposition that the company view

as mere boilerplate that was never updated or seriousissuer.

Perhaps the greatest frustration that company marisk factors, aside from the fact that there are so many


40/170


C. PRO FORMA FINANCIAL DATAPro forma financial data recasts the companys fi

as if a particular transaction or other state of affairsbeginning of the period presented (in the case of incoor as of the last balance sheet date (for balance sheet rely heavily on pro forma financial data because they

interested in the companys performance going forwasignificant transaction has taken place that is not fullycompanys historical financial statements, those state

predictive of performance going forward. Pro forma to normalize the historical financial data for the curre

Pro forma financial data is not always necessary.requirements for pro forma financial data are containRegulation S-X. Under Article 11, pro forma financiarequired, among other things, when a significant acduring the most recent fiscal year or interim period fodata is presented, or is probable. Significant for the

applying the conditions described in Chapter I, Sectiolevel.

D. MANAGEMENTS DISCUSSION AND A

Managements discussion and analysis of financiresults of operations, or MD&A, is intended to pro

insight into the companys financial performance andranks a close second to the box summary as the mostof the offering memorandum. A well-written MD&Atremendous insight into not only the companys histo


41/170


42/170


summary. Often following this introductory material of the companys products and services, the competitcompanys information technology capabilities, its pand various other aspects of its business. This sectioncontain a discussion of the industry in which the comthe box summary and the MD&A, the business sectio

occupy more of the working groups attention than anthe offering memorandum.

F. MANAGEMENT; CERTAIN RELATION

The management and certain relationships sectiotechnical descriptions of the companys directors and

are compensated and what other relationships they mcompany. Governed by Items 401, 402, 403 and 404 the management section will begin with a series of brthe companys officers and directors and, optionally,These are not resumes they are responsive to a tecand must include the persons business activities for

and any directorships of other public companies. Edubackground is not required, nor is a comprehensive dpersons entire career. Having said that, you can go brequirements in certain cases to list relevant and comqualifications or experiences.

The biography section is followed by a discussiocompensation. For managers of heretofore private cocome as an unwelcome surprise. The technical requirsection are quite detailed, and experienced company parse the details Suffice it to say that extensive discl


43/170

THE OFFER

G. DESCRIPTION OF OTHER INDEBTEDNThe offering memorandum will often contain a d

company indebtedness. This is not technically requirinvesting in the high yield offering is a credit decisioinvestors, it is considered useful and material. This seone to three pages in length and contains a moderatel

description of the companys senior credit facilities, indebtedness or preferred stock that would be relevandecision. This section is often somewhat duplicative capital resources portion of MD&A but generally prodetailed discussion of the other credit arrangements, may affect the rights of the high yield note investors.

H. DESCRIPTION OF NOTES

The description of notes will be forty or more pawill contain, more or less verbatim, the operative lanindenture. This section is described in detail in Chapt

I. OTHER

The offering memorandum will also contain a nusections, such as use of proceeds, selected financial d

distribution and the like. While these sections are impright, we have omitted a detailed description of themoccupy a great deal of the working groups time and


44/170


45/170

CHAPTER IV

THE CREDIT PARTIES

Before entering into the detailed discussion contaof the important covenants contained in a high yield iimportant to understand the structure of the high yielvarious categories of credit parties relate to the inden

In order to understand the high yield structure onconcept of the system, i.e., the issuer and the guara

purposes, nonguarantor restricted subsidiaries), but eunrestricted subsidiaries (each of these parties will b

below). The high yield indenture generally regulates outside of the system (including the obligation to repoutside of the system) and allows the free flow of moinside the system. Many professionals liken the high

plumbing system, which, while an imperfect analogyunderstanding the concept of free circulation within t

prevention of leaks.

A. THE ISSUER

The threshold question in establishing the high ystructure is determining who should issue the notes. Fcompanies, the issuer will typically be the public comnonpublic companies, the matter is less clear. If the pthe corporate chain is also a fully functioning operati


46/170


B. GUARANTORS

High yield notes are often guaranteed by most if

companys domestic subsidiaries, and sometimes by

company. The purpose of the guarantee is to bring thdown in the companys capital structure and therefor

companys operating assets.

The question of whether to issue a parent guarant

decision and a financial reporting decision. The credi

parent guarantee when the parent is a pure holding cocompelling, nonetheless some initial purchasers may

enhance their marketing of the notes. The question of

a parent guarantee is also influenced by the banks deof the operating companys common stock, which is

some obligation on the pledgors part to be effective.pledge, the banks may demand a guarantee of the ban

banks have a guarantee, bond buyers will demand on

parent does not guarantee the securities, the issuer mu

reports that are not consolidated with the parent compconsolidated with all subsidiary guarantors. If the par

the notes, the issuer may report consolidated financia

parent company level, simplifying its reporting requi

Issuers are also influenced by the requirements o

Oxley Act of 2002, which are only applicable to the p

parent guarantee (assuming that the parent is not itselcompany subject to Sarbanes-Oxley). In particular, S

prohibits loans to executive officers, which can adver

companys ability to provide tax-efficient manageme


47/170

strongly as to write a formal legal opinion on the subconveyance risk is a risk that the market has learned in the guarantee structure.

C. NONGUARANTOR FOREIGN SUBSIDIA

Federal tax rules effectively prohibit the guarante

companys indebtedness by a foreign subsidiary. Thiextent such indebtedness is so guaranteed, the earningwhether or not distributed to the parent company, wideemed dividend, increasing the companys federaobligations. This result is well understood by high yiand the inability of foreign subsidiaries to issue guara

least should not be) controversial.

D. RESTRICTED SUBSIDIARIES

The term restricted subsidiary is a bit misleadingsubsidiaries are restricted in the sense that they are

terms of the indenture; they are not restricted in thefreely able to transact with other restricted subsidiaribeing in the system, rather than being restricted. subsidiaries of the issuer will be restricted subsidiarias unrestricted subsidiaries, including both guarantornonguarantors. This means that all income produced

subsidiaries is counted for purposes of compliance wcovenants described in Chapter V, and these subsidiain their ability to take the various actions that are limcovenants. The distinction between guarantors and norestricted subsidiaries is more subtle Some actions s



48/170


they are not permitted the freedom to freely interact wparties inside the system as are restricted subsidiariesfrom unrestricted subsidiaries does not support the cocompliance with the high yield covenants, all transacunrestricted subsidiary must be permitted by the tranaffiliates covenant and any capital contributions or loguarantees of the indebtedness of, the unrestricted surestricted as investments in the unrestricted subsidiarlook to the creation of an unrestricted subsidiary to s

problem under the indenture only to find that the formunrestricted subsidiary causes more problems than it

That said, having the ability to form unrestricted

useful feature in an indenture. If a company wants tobusiness or perhaps the same line of business in anotwants to separately finance these operations, the unrevehicle can be a way to do this. Investors have becomof this feature, however, because in recent years manunrestricted subsidiaries to repurchase the companys

the market at deep discounts, thereby avoiding the oball of this debt at par or a stated redemption price undCare should be taken on both sides of the transactionunrestricted subsidiary concept is warranted and, if srestricted subsidiaries can be designated as unrestrictand when and how the issuer or its restricted subsidia

unrestricted subsidiaries.


49/170

CHAPTER V

THE COVENANT PACKA

On the surface, high yield covenants look much lyou might find in any credit agreement. They are notgenerally contain a mixture of maintenance covenaincurrence covenants. A maintenance covenant r

party to maintain or achieve a certain level of financiavoid default. Thus, a typical credit agreement mightto maintain a certain level of revenue or a certain ratifixed charges. Incurrence covenants, on the other hmeasured when the debtor proposes to undertake somincurring additional debt or making a restricted paym

While no one would argue that a high yield indenrestrictive, issuers can at least take some comfort in t

all high yield covenants are incurrence covenants, anviolate a high yield indenture by inaction alone paaside, the company must take some action (or omit toaction required as the result of some other action) in under the high yield indenture. Poor, even pitiful, finin and of itself will not cause a default under the typi

indenture.

The other critical distinction between a credit agryield indenture is the time horizon of the instrument amend once issued The credit agreement usually car



50/170


be detrimental to their ability to repay the bonds and thereon. Each of the primary covenants is designed to

particular set of acts that could have this effect. To pand subject to numerous exceptions and qualificationtypical high yield indenture covenant package, the boeffect saying:

Do not further leverage the business we arbonds based on your current and planned bor

Do not distribute or invest your assets outsidbusiness we would rather have you use threpay us;

Do not sell assets unless you use the proceedbusiness, reduce indebtedness or repay us;

Do not incur any more liens your assets arvaluable to us if they remain unencumbered;

Do not cut sweetheart deals with your affilia

value away from the business and we get not

Do not allow your subsidiaries who have notbonds to guarantee other debt of the issuer subordinate us to such debt by giving it a direassets of these subsidiaries;

Do not allow restrictions to be placed on yousubsidiaries that make it harder to get moneyus and service our interest payments; and

THE C


51/170

THE C

A. THE INDEBTEDNESS COVENANTThe indebtedness covenant and the restricted pay

the two most important covenants in the high yield inindebtedness covenant is important because additionadilutes the claims of the high yield bonds being issueindenture against the assets and cash flow of the issue

addition, increased debt service requirements can werating to the detriment of the market value of these bogenerally includes all borrowed money, capital leasestypes of obligations to pay money. It does not, howevinclude ordinary course trade payables or other debtsand retired in the ordinary course of business.

The indebtedness covenant generally restricts therestricted subsidiary from incurring additional debt ecircumstances: first, if the issuer meets the coveragethe issuer and any guarantor will be permitted to incusecond, the issuer and other credit parties may generadebt at any time.

The coverage ratio exception allows the issuer anincur unlimited additional indebtedness so long as, afeffect to the additional indebtedness, it meets the defearnings before interest, taxes, depreciation and amor(EBITDA) to fixed charges (the coverage ratio).

coverage ratio is most commonly 2.0 to 1.0, but somesteps up over time to higher ratios in subsequent yetypically are not eligible for the coverage ratio excepissue the notes and thus must look for another except



52/170


prohibited, and limited debt baskets that are permittedollar amounts.

There are a number of items that are technically which no one believes should be prohibited by the ininclude transactions such as the inadvertent writing o(technically creating debt to the bank that cashes it).

number of types of indebtedness that everyone agreethe company should be able to incur, such as guarantotherwise permitted by the indenture to be incurred. the description of notes will contain a few such excepcompany counsel will negotiate for many more. Noteindentures categorize some of these carveouts as pe

indebtedness, while others carve the item out of the indebtedness altogether. The high yield indenture reqinformed reading to fully understand its nuances on t

Permitted debt will also include a number of specbaskets, including (perhaps) a basket for local currforeign subsidiaries (for working capital purposes) animportantly, debt issued under the companys senior Most indentures will also contain a hell or high wat

permits a limited dollar amount of debt to be incurredno reason at all. Issuers should guard this basket carehigh water both occur more often than wed all like.

One noteworthy issue is whether the various baskone-time only. Obviously, the issuer would prefer to

baskets as indebtedness incurred under the basket is rone-time only baskets were the norm. In recent years

THE C


53/170

improved by requiring any financial support from thein the form of intercompany loans, rather than equitycourse, this can also affect the companys tax positioanalyzed carefully.

The effect of structural subordination is why the issuer and guarantors as discussed above is so critica

issue is resolved, the disclosure document should clerelative seniority of various debt instruments imposedissuers within the corporate structure. For example, inotes are issued by a parent holding company with noguarantees, you would want to have a risk factor expholders have no claim on the assets at the subsidiarie

potential equity claim, which by definition is subordiclaims at the subsidiary level.

B. THE RESTRICTED PAYMENTS COVEN

The restricted payments covenant is the other keyhigh yield indenture. This covenant restricts the flowof the system, thereby preserving the companys abiindebtedness. It is an important covenant because if mvery funds raised by the issuer through the high yieldout of the system, the high yield debt can very quicklPayments restricted by this covenant include divideninvestments made in third parties, loans made to thirdguarantees of indebtedness of third parties. It is also what is not limited by this covenant acquisitions o

become restricted subsidiaries, capital expenditures aintercompany loans and guarantees



54/170

calculated, not the least of which is that the consolidaexclude the profit or loss of any unrestricted subsidiais interested in being able to make restricted paymentisnt? the designation of a profitable subsidiary asto be taken lightly.

Permitted restricted payments again fall into tw

restricted payments that should be permitted at any tiacquisition of an entity that becomes a restricted subs

payment of a dividend that was permitted to be paid wthe board; and a series of predefined baskets.

The baskets will be bifurcated into two sets: permpaymentsper se and permitted investments. There arhell or high water type baskets for each of these. Itremember that investments are restricted payments, acan aggregate the two baskets when attempting to mathat is too large to be permitted under one or the othe

One note about joint ventures: they tend to create

interpretive questions under the indenture and, as wriyield indentures allow limited flexibility for joint venfor this is that bondholders do not want cash removed

balance sheet and invested in an entity that is not conand subject to the covenants of the indenture. Contro

joint venture unfortunately is often not a black and w

matters may fall within the control of one party or thmatters may be jointly controlled. Issuers for whom jserious option will need to provide for necessary flexdrafting of this and other covenants and, after the fac

THE C


55/170

parent is by paying a dividend. Thus, the dividend stoattempts to ensure that there are no limits on a subsiddeclare and pay dividends. This is not usually a practissuer, save one important exception the joint vent

joint venture arrangement for the joint venture partnepartner) to have some measure of control over the joito pay dividends. This would not be permitted by mocovenants, and has itself been the final straw breakmany proposed joint ventures. The typical structural issue is to form a joint venture as 50% or less owned thereby making it a nonsubsidiary and therefore not scovenant. Of course, that also has the effect of causinthat subsidiary to be a restricted payment under the inonce again proving that you cant have your cake andmatter how good your lawyers are!).

D. THE LIMITATION ON LIENS COVENA

The limitation on liens covenant is almost identicintent, to the similar covenant contained in all credit covenant will generally restrict the companys abilitythan permitted liens) on its assets unless the companyratable lien to the holders of notes. The challenge in tcontext is to cause the definition ofpermitted liens toexactly as possible to the same definition in the compagreement. Depending on the views of initial purchassubject, this can be as easy as incorporating that definor cutting and pasting that definition verbatim, or as heach line item word for word In either event the bus



56/170

define the acceptable use of the proceeds from asset proceeds must be used to permanently repay debt (nodebt issued under the indenture) or to purchase replaterm replacement assets is almost equally misleadingto assets replacing those sold; rather, it generally inclwill be used in the companys business.

These covenants also typically provide that assetfor consideration consisting primarily (75% to 85%) swaps may or may not be an acceptable alternative toevent, this covenant will require that assets be sold fovalue.

To the extent the proceeds of asset sales are not uwith the covenant, the issuer must use the proceeds tooffer to purchase the outstanding notes at a price equ

plus any accrued interest. It is common to negotiate famount of proceeds that does not have to be reinvestea relatively small amount. Because the company can for the cash permitted by the covenant that will be mooffering to repurchase the notes, such an offer is rare

F. THE TRANSACTIONS WITH AFFILIAT

COVENANT

The transactions with affiliates covenant, like thecovenant, does not actually prohibit transactions withimposes conditions on the consummation of such tranconditions to completing a transaction with an affilia

THE C


57/170

G. OTHER COVENANTS

The indenture will also contain a number of othethe mundane (maintenance of existence, delivery of ccertificates, etc.) to the substantive (equity clawback,optional redemptions, etc.). While these covenants ar

be the subject of some negotiation, they do not typicaamount of attention as the foregoing covenants.


58/170


59/170

CHAPTER VI

THE A/B EXCHANGE

The typical high yield offering is structured as a

the initial purchasers under Section 4(2) of the 33 Aresale by them to qualified institutional buyers, or QIRule 144A promulgated under the 33 Act, to institutinvestors, or IAIs, under the so-called Section 4(1-1/2

purchasers overseas under Regulation S. The principtransactional structure over a registered initial offerin

can brings its securities to market significantly fasterobtain funding from investors more quickly because involve SEC review and its associated delays.

For all its advantages, however, the initial privateone significant disadvantage it makes the notes r

under the 33 Act in the hands of those QIBs, thoughfreely trade the notes among other QIBs, IAIs and forBecause restricted securities must generally be held fone year before they can be resold, investors want to their investment guidelines) own unrestricted securitthis would have presented a problem, as the 33 Act p

registertransactions, notsecurities, and because the transaction would have already taken place, the only

provide the investors with the ability to sell without rhave been to file a resale shelf registration statement



60/170

resale shelf registration, but it also reduces 33 Act lithe applicability of Sections 11 and 12(a)(2) in the laA/B exchange, combined with the SECs promulgatio1990, has fueled the spectacular growth of the high y

A. THE EXCHANGE OFFER

In the modern era, a feature of virtually every 14offering is the subsequent exchange offer made possiCapital. Designed to meet the requirements of the afoCapitalno-action letter, the exchange offer enables thexisting noteholders with unrestricted notes under theexchanging their original Series A notes with a new

notes. The A/B exchange is accomplished from 120 tlonger) after the original transaction pursuant to the ragreement described below. The initial purchasers domeaningful participation in this transaction; it is effecompany counsel and the trustee, and generally requimanagement time and attention than the initial offerin

B. THE REGISTRATION RIGHTS AGREE

At the time of the initial sale, the issuer will enterights agreement with the initial purchasers requiringexchange offer on a timely basis. The registration rigset forth a series of milestones to be met (filing the restatement, having the registration statement declared completing the exchange offer) in a specified numbermilestones are not met, the company will be in a regand will be obligated to pay additional interest on the


61/170

this area from time to time, and this fall-back position

agreements.

C. THE REGISTRATION STATEMENT

The exchange offer registration statement is relatstraightforward. It will usually use the language of th

memorandum verbatim (but updated for the passage of circumstances), together with standard language remechanics of the exchange offer. The SEC may or mregistration statement, but particularly in the case of usually does.


62/170


63/170

CHAPTER VII

LIVING WITH THE HIGH YIELD I

Once the company has issued the high yield note

seven- to ten-year period of living with the indenturegift that keeps on giving. You should keep the lengththe difficulty of amending the indenture firmly in minurge to rush through the indenture issues during the o

A. ONGOING REPORTING REQUIREMEN

Once the SEC has declared the exchange offer reeffective, the company becomes technically subject treporting requirements of Section 15(d) of the 34 A

beginning of the first fiscal year in which it no longesecurity holders of record. Typically, this will be the

companys registration statement goes effective, in pyield notes are held in book-entry rather than certificmeans that there will be only a few holders of recordcompany becomes a voluntary filer as far as the SEmust continue to file reports under the indentures rerequirements. Even before the registration statement

effective, the company is required to deliver analogotrustee and the noteholders. Issuing a series of high yvery real sense, going public.

A full description of the periodic reporting requir



64/170

of the information that would ordinarily be contained

companys proxy statement and incorporated by refecompanys annual report on Form 10-K must be phythe Form 10-K itself.

B. INTERPRETIVE QUESTIONS

As you will have surmised, the high yield indentudocument to understand and to negotiate. It is equallyinterpret when faced with the actual facts and desiresa going forward basis. Interpretive questions arise frealways have clear answers. Experienced company colawyer who negotiated the indenture, can help with th

they arise.

C. COMPLIANCE CERTIFICATES

Most indentures require that the issuer provide pcertificates to the indenture trustee. While the certificgenerally very simple and just provides a statement b

officer that he or she knows of no default under the imust make sure that someone has this on his or her chcompliance items. It should go without saying, but wthese certificates must be very familiar with the indenmust either know or inquire as to whether anything hraises a compliance issue thereunder.

D. AMENDMENTS

As noted earlier, one of the distinguishing charac

LIVING WITH THE HIG


65/170

One curious aspect of the consent provisions is th

prohibit so-called exit consents. A fairly typical trawhich the issuer tenders for the notes during a time inoptional redemption available. In connection with thenoteholders usually vote for an amendment to the indeliminates virtually all of the substantive covenants. turning off the lights as you leave a room full of peop

illegal.

E. DEFAULTS

The events of default are defined in a fairly consindentures. There is usually no grace period for failur

when due, a short grace period (generally 30 days) fodefaults and a similar grace or cure period for covenacovenant defaults, however, it is very helpful to the iruns only from and after notice by the trustee to the icovenant default. This in effect forces the trustee to dcovenant default and take action with respect to it. Th

compliance certificate is an important element of thecertificate is intended to put the trustee on notice of cso that the certifying officer, and not the trustee, is powith the covenants.

Invariably there will also be bankruptcy or insolvdefault and events of default that arise when the issue

judgments against it above a specified threshold amoindebtedness above a specified threshold amount thatOn that latter point, the issuer would prefer that the dit occurs only if the other indebtedness actually gets



66/170

under the indenture the benefit of the more restrictive

credit documents.

Once there is a default (other than a bankruptcy odefault, which will trigger immediate acceleration), tof some minimum amount of the notes (typically 25%affirmatively accelerate the debt. In the absence of th

be a default with no immediate consequence under thtypical for a default situation to remain between defaacceleration while the parties try to work out a solutithat caused the default.


67/170

CHAPTER VIII

THE SARBANES-OXLEY A

The Sarbanes-Oxley Act of 2002 and the related

number of obligations on an issuer of high yield noteobligations stem from the companys contractual disc

under the indenture and thus come into effect the mom

issues the notes to the initial purchasers. Still other ob

when the company becomes an issuer within the m

Oxley, which happens the moment the company files

statement for its A/B exchange offer and typically enthe fiscal year in which the companys registration st

effective. At that time the high yield issuer becomes for SEC and Sarbanes-Oxley purposes, although as n

issuer is required to continue reporting under the term

It should be emphasized at the outset that companperiodic reports pursuant to Sections 12(g) or 15(d) o

most companies with publicly traded equity securitie

issuers for purposes of Sarbanes-Oxley and subject

of provisions. Because this is often not the case for hiassume in this chapter that the company has not issue

that would otherwise subject them to the 34 Act repoWe sometimes refer to such issuers in this chapter asissuers.



68/170

1. CIVIL OFFICERCERTIFICATIONS

Sarbanes-Oxley requires the companys CEO andeach periodic report that they have reviewed the repoaccurate and does not omit information that would remisleading and that it has established, maintained andeffectiveness of its system of internal controls. This

is separate and distinct from the so-called criminal crequired under Sarbanes-Oxley. Voluntary filers are criminal certification requirements, but are subject tocertification requirements.

2. USE OF NON-GAAP FINANCIAL MEASUR

In order to present non-GAAP financial measurEBITDA, in a filing with the SEC, companies must adirectly comparable GAAP measure with equal or grand provide a reconciliation of the non-GAAP financmost directly comparable GAAP measure. In additionalso include a statement as to why management belie

GAAP measure provides useful information to investcompanys financial condition and results of operatiomaterial, a statement disclosing the additional purposmanagement uses the non-GAAP financial measure. which applies to public statements made outside of a imposes similar requirements. Although high yieldo

technically not subject to the requirements of Regulapractice and common sense have led many such filercomply with Regulation G in all of their public statemth SEC h d it i th t l t fil

THE SA


69/170

company have such an individual, it must also disclo

and whether he or she is independent. In the event not have such an individual on its audit committee, it

4. CODE OF ETHICS DISCLOSURE

Similarly, an issuer must also disclose whether o

a code of ethics (meeting the standards promulgated bapplicable to its principal executive officer, principalprincipal accounting officer or controller or persons pfunctions. If the company has not adopted such a codwhy. As a practical matter, this means that all comparequirement adopt a code of conduct because there is

reason not to do so. The company must also make imdisclosure of any amendments to its code of ethics, ancompany of a material departure from the code by a simplicit waiver, or failure on the companys part toa reasonable period of time regarding a material depa

provision of its code that has been made known to an

the company.

5. DISCLOSURE OF OFFBALANCE SHEET A

AND AGGREGATE CONTRACTUAL OBLIG

Issuers must include a separately captioned sectiodisclosing all offbalance sheet arrangements that ha

likely to have a material current or future effect on thfinancial condition, revenues or expenses, results of ocapital expenditures or capital resources. In addition,

t i d i l t F 10 K



70/170

stating managements assessment of the effectivenes

internal control structure and procedures for financiaManagements assessment must also be attested to anthe companys auditors. This requirement has resultecompanies incurring significant expenses associated attestation requirements. Because a high yieldonly i

be an accelerated filer under SEC rules, such issue

required to meet this requirement until the 10-K for tending on or after July 15, 2005.

7. AUDITORINDEPENDENCE RULES

A number of restrictions have been placed on the

between a company and its audit firm in the name of independence. These restrictions prohibit an audit fircertain nonaudit services and require that all audit ser

permissible nonaudit services be pre-approved by thecommittee. Significantly for an issuer of high yield nletter typically required by the initial purchasers in c

high yield offering is deemed under Sarbanes-Oxley service for which prior approval must be obtained. Oinclude requirements that: (1) certain partners at the ainvolved in the companys audit be periodically rotatreport certain matters, such as the companys critica

policies to its audit committee; (3) the company disc

nonaudit fees it pays to its audit firm; and (4) the comaudit firm if a person in a financial reporting oversigcompany was on the companys audit engagement tea

preceding the commencement of the audit. Although

THE SA

9 R D M


71/170

9. REAL-TIME DISCLOSURE OF MATERIAL

Under new (August 2004) SEC rules, the filing dForm 8-K for most triggering events has been shortendays after the occurrence of such event. The same ruthe scope of triggering events to include entry into anmaterial definitive agreement made outside the cours

business, events that accelerate a direct financial obliimpairment to the companys assets (including goodw

B. PROVISIONS APPLICABLE UPON FILI

OF REGISTRATION STATEMENT

Those provisions of Sarbanes-Oxley that do not ayieldonly issuer until the filing of its registration stafollows.

1. DIRECTOR AND EXECUTIVE OFFICERLO

For so long as the company is an issuer within

Sarbanes-Oxley, it will be prohibited from extendingcredit, arranging for an extension of credit, or renewicredit (directly or indirectly, including through any sform of a personal loan to or for any executive officeExtensions of credit existing on July 30, 2002 are graSarbanes-Oxley, so long as they are not thereafter ma

renewed. Limited exceptions to this prohibition existexample, for home improvement loans. These excepthowever, such common business practices as providior extending personal loans to directors or officers to


(2) fit li d f th l f th


72/170

(2) any profits realized from the sale of the company

that 12-month period. Not that it should be necessaryof this provision should help explain to the CEO and financial and other due diligence conducted as part o

process is so critical. It is far better to discover a probif it delays or precludes an offering, than to discover to restate financial statements and comply with these

provisions.

3. IMPROPERINFLUENCE ON CONDUCT OF

New rules enacted by the SEC prohibit officers aissuer, and persons acting under the direction of an o

from coercing, manipulating, misleading or fraudulenauditor of the companys financial statements if that should have known that such action could render the materially misleading. Needless to say, undertaking sviolate a number of other legal prohibitions irrespectOxley and its associated rules.

4. CRIMINAL OFFICERCERTIFICATIONS

In addition to the so-called civil certifications rand CFO in the Form 10-K, Sarbanes-Oxley also req

persons to separately certify, upon pain of criminal pthe companys periodic reports is in full compliance w

fairly presents in all material respects the companysand results of operations.

As noted above, the provisions covered in this se

THE SA

that any such loans must be repaid to or forgiven by


73/170

that any such loans must be repaid to, or forgiven by,

prior to the time that the registration statement is file

C. OTHER CONSIDERATIONS

A full description of the implications of Sarbanesthe scope of this document. Needless to say, Sarbane

many of the decisions that will be made during the ofprospective issuer will need to rely heavily on counseoperation in negotiating its various nuances. By way consider the impact the ban on making loans to execudirectors may have on determining the high yield cre

being able to provide such loans is important to a com

will need to consider adopting a two-tier holding comcompany structure with the notes being issued at the level and the loans being made at the holding compancourse of action would be permissible under Sarbanethat the holding company is not also a guarantor of thcompanys high yield notes.

In addition to the provisions of Sarbanes-Oxley dthere is yet a third family of provisions under Sarbanassociated rule-making efforts by the NYSE and Nasdirectly applicable to high yieldonly issuers. This faof the corporate governance provisions (other than thembedded as disclosure requirements in periodic rep

NYSE and Nasdaq requirements regarding majority-audit committee composition and the formation of nocompensation committees. Because high yieldonly inot have listed securities NYSE and Nasdaq rules do


The SEC has also adopted rules accelerating the


74/170

The SEC has also adopted rules accelerating the

most large public companies. These rules generally athat have a public float of $75 million or more.Publithe market value of the companys equity securities has of the last day of the companys last second fiscal yieldonly issuers do not have traded equity securitiesubject to these accelerated filing deadlines, which w

them a 30-day extension over accelerated filers whenReport on Form 10-K and a 10-day extension when fReports on Form 10-Q. Another advantage of being afiler relates to the transition rules for the auditors attinternal controls as required by Section 404 of SarbanSEC has extended the compliance date for such filers

For your reference, attached as Appendix C is a tthe various provisions of Sarbanes-Oxley and whetheapplicable to high yieldonly issuers.


75/170

CHAPTER IX

RULE 144A

As noted in Chapter VI, issuers rely on the exem

registration provided by Section 4(2) of the 33 Act fyield notes to the initial purchasers. The initial purchthe exemption from registration contained in Rule 14under the 33 Act for the resale of those notes to subsThe importance of this exemption for the initial purcthe colloquial alternate name for a high yield offering

commonly known as a 144A offering.

A. REGISTRATION EXEMPTION

Rule 144A exempts the resale of certain securitieinstitutional buyers, or QIBs, from the registration re

contained in Section 5 of the 33 Act. Although the ein Rule 144A is not available to an issuer of notes or availability of the exemption for the initial purchaserfacilitates capital-raising by issuers by permitting gresecondary market.

Initial purchasers and other sellers (other than iss

offering or selling notes or other securities in compliRule 144A are deemed not to be underwriters engageand therefore not subject to the registration requiremand the liability provisions of Sections 11 and 12(a)(


B QUALIFIED INSTITUTIONAL BUYERS


76/170

B. QUALIFIED INSTITUTIONAL BUYERS

In order to fit within the safe harbor of Rule 144Aof the notes or other securities can be made only to a or purchaser that the initial purchaser or other seller wnotes or other securities reasonably believes is a QIBis an institution, such as an insurance company, inves

investment adviser, that owns or invests on a discreti$100 million (or in the case of broker-dealers registe34 Act, at least $10 million) in securities of unaffiliadetermining whether a prospective purchaser is a QIB

purchaser or other seller is permitted to rely on certanonexclusive methods of establishing a prospective p

ownership and discretionary investments of securitie

C. NOTICE TO INVESTORS

The initial purchaser or other seller of the notes omust take reasonable steps to ensure that the purchthe notes are not registered under the 33 Act in relia

exemption contained in Rule 144A. The cover page omemorandum and a separate section of the offering mentitled Notice to Investors will include standard la

purchasers on notice that the notes are not registered offered and sold under Rule 144A.

D. PERMITTED SECURITIES

The notes or other securities being offered or solmust not, when issued, be of the same class as securit

E. INFORMATION REQUIREMENTS


77/170

E. INFORMATION REQUIREMENTS

The holder of the notes or other securities and thpurchaser designated by the holder must have the rigobtain from the issuer specified information (which ireasonably current) including a very brief statementhe business of the issuer and the products and servic

issuers financial statements. The indenture typicallyundertaking by the issuer to make available, upon reqor prospective purchaser of the notes information req144A(d)(4). Granting the aforementioned informatiorequired if the issuer of the notes or other securities icompany under the 34 Act, is a foreign issuer exemp

under Rule 12g3-2(b) or is a foreign government eligSchedule B under the 33 Act.


78/170

APPENDIX A


79/170

APPENDIX A

ANNOTATED

HIGH YIELD INDENTUR

COVENANTS

This document sets forth one example each of severayield indenture covenants. In certain respects, what fhigh yield offering covenants. In other respects, it is musual. The market and the issuers particular situationissuance drive what an issuer can expect to achieve.

The annotations call attention to certain aspects of threlevant definitions. In the interest of brevity, not evesubject of an annotation (particularly not the self-eviall typical indenture covenants are included. In additidefinitions are set forth. The fact that a particular proannotated or that a particular definition is not includenecessarily mean it is unimportant.

This document can be used as the basis for a markupriders or simply as a learning tool. Its limitations, howsignificant the following is a nonexclusive list:

Documents

Nowak HighYieldOfferingsBook