Reviewing covenants quickly is one of the key skills that we teach our clients at Fox Legal Training. In this blog, we review recent docs changes to Sammontana Italia’s debut offering and walk you through how to assess a company's ability to invest in unrestricted subsidiaries using Oriflame as a case study.
Sammontana Italia: Covenant Changes
We wrote this week on Sammontana Italia's debut offering – click here to read our take – and yesterday the borrower announced amendments to its docs terms.
- Super senior debt capacity was reduced to the greater of €140 million or 100% of EBITDA, in line with the day-one RCF, reducing contractual subordination risk by €40 million.
- Ratio-based credit facility baskets were reduced by aquarter turn for both junior secured and unsecured debt.
- The Restricted Payments builder basket was amended:
- The event of default condition to accessing capacity now includes any event of default, not just material ones.
- The zero floor was changed from a quarterly to a cumulative formulation, allowing forpotential reductions in accumulated capacity in the event that the issuer makes losses.
- The Permitted Investments basket for investments in subordinated indebtedness was reduced by a quarter turn.
- The "no worse" prong was removed from the leverage-based Permitted Investments carveout.
- A J. Crew blocker was added.
- Portability was removed.
These changes are positive from a lender's perspective, though significant effective subordination risk and potential value loss remain.
Assessing Restricted Payments Capacity: The Oriflame CaseStudy
Unrestricted Subsidiaries first came into the spotlight for lenders when J. Crew moved valuable intellectual property away from lenders to raise funds outside of the restricted group. Now we recommend to clients that they analyze capacity for borrowers to take similar actions well in advance of when a borrower becomes stressed.
When evaluating a company's ability to invest in Unrestricted Subsidiaries, I follow these steps:
Step 1. Examine the Restricted Payments Covenant:
- Start with the definition of “Restricted Payment”.
- Look at conditions for accessing the builder basket (we will publish an explainer video on this next week).
- Analyze the builder basket formulation, including any starter amounts.
Step 2. Assess Builder Basket Accessibility:
- Check if the borrower can meet the required ratio test (leverage or fixed charge coverage).
- Verify whether any applicable default has occurred or would result therefrom.
3. Calculate Permitted Payments Capacity:
- Add up permitted payments baskets, noting what they can be used for.
- Consider leverage-based carve-outs (though often stressed borrowers will be unable to access capacity here).
- Look for cross-references to the Asset Sales covenant.
Step 4. Examine the “Permitted Investments” Definition:
- Look for the general basket and specific carve-outs for unrestricted subsidiaries, joint ventures,or similar businesses.
- Check for leverage-based permissions.
Step 5. Aggregate Total Capacity:
- Add permitted payments capacity, permitted investments capacity, and any accessible builder basket capacity.
Key Takeaways:
- Don't limit your analysis to just the unrestrictedsubsidiary investment basket. Companies can often use multiple baskets for this purpose.
- Pay close attention to ratio tests and default triggers, as these can significantly impact a company's ability to access accumulated capacity.
- Some companies may be allowed to make investments in unrestricted subsidiaries from the builder basket without meeting a ratio test or checking for defaults. Always check these conditions very carefully.
Understanding these nuances is crucial when analyzing acompany's ability to move assets into unrestricted subsidiaries. As covenant provisions can vary between issuers, it's essential to approach each analysis with a thorough and systematic method.
Next week we will explore the various conditions for accessing builder basket capacity, as this topic can be particularly complexand varies significantly between different debt agreements. Stay tuned for our explainer video and blog on the topic!