G260? Initiative gains converts

In the past month, the original proposals by the Group of 26 for best practice in the corporate bond market have taken another step forward as the broader debate has spread to include the Association of British Insurers. In addition, the BVI group of German investors has met with investment banks and German issuers to discuss the initiative.

The Association of British Insurers (ABI) is discussing the original Group of 26 proposals and looking to produce a document on best practice by July at the very earliest.

John Hale, manager in the investment affairs division of the ABI, tells Credit that the paper’s primary objective is ensuring that investors get timely access to information that is transparent and clearly labelled.

He believes that documentation should “do exactly what it says on the tin”, a reference to the advertisements by wood-care firm Ronseal. In other words, investors need to be confident that they fully understand what they have taken on when buying an issue. “The loose use of language, from time to time, has presented real problems to investors. Best practice in this area is seen as a means to improve efficiency in the markets which will be to the mutual benefit of issuers and investors,” he says.

Discussion points

In respect of covenants there are three core areas that the ABI paper seeks to address. First is the issue of change of control, second is the long-standing issue of a negative pledge that has real meaning and, lastly, there is the issue of disposal of assets.

Discussions will also focus on the issue of redemptions. A Spens clause is a frequent feature in the sterling market and gives issuers the right to redeem a bond early, at a price flat to the benchmark Gilt. Whilst corporates with high coupon bonds may consider this prohibitively expensive, existence of the clause, in itself, provides a basis for negotiation between firms and investors, often through an ABI special committee. “There is no similar structure in the larger euro-denominated market, so thoughts will be addressed in that direction,” adds Hale.

The issue of trustees is another area that will be discussed, as investors have become more concerned about potential conflicts of interest between investment banks and the trustees themselves. In short, the trustee is there to police the trust deed and covenants under the documentation agreed with issuers, but many trust firms are now owned by banks who act on behalf of these issuers: Deutsche Bank controls Bankers Trust, JPMorgan owns Morgan Guaranty and Citibank is part of Citigroup.

“The more complex the instruments are, the more important it is to have confidence and faith in the independence and impartiality of the trustee,” says Hale.

The ABI, in adopting a best practice approach, is looking to address the concerns and criticisms some investors had about the original G26 proposals in that it seemed too prescriptive. The association sees no desire from the investor community to restrict the flexibility of issuers. Each credit has its unique qualities

“If we claim we are not going to be restrictive, you have to have a principles-based paper which will apply in all stages of the market cycle – whether it’s a buyer’s or seller’s one,” says Hale.

The hope is that issuers will adhere to the best practice document, but of course ultimately it will be up to the sell side to decide whether to play ball or not. Hale believes that if firms do adhere to best practice then they are liable to obtain some benefits and “if issuers decide to step outside normal conventions, then they can do so, but the market will price accordingly” he says.

The German push

The German initiative took another step forward last month when the BVI group, which represents over 70 German-based asset managers managing in excess of €1 trillion, held two meetings. The first took place on April 30 with six German issuers and the second, with 10 international investment banks, was held a week later. Soundings from those behind the BVI initiative gave an optimistic outlook on the discussions.

“The two meetings went quite well in the sense that we had an open dialogue and there was a recognition that our request for timely and in-depth information was a viable solution,” says Rudolf Siebel, managing director at the Bundesverband Investment und Asset Management (BVI).

He adds that discussion will continue as the proposals are explored further, particularly the change-of-control and negative pledge clauses. “Some issuers believe that [any changes to the clauses] could reduce their financial flexibility and inhibit them too much,” he says.

Though Georg Lambertz, head of finance at RWE is in accordance with the BVI’s demands for better disclosure, he deems certain proposals as “inappropriate”, such as the change of control clause and certain covenants, “that should be up to the market to decide,” he says. His fear is that even minor credit events, for instance corporate restructurings like the disposals of shareholdings, could restrict issuers’ strategies.

But Siebel stresses that extreme cases need to be addressed. For example, if a AA- rated utility is bought out by a B rated firm in a leveraged buyout, resulting in a split rating for a textile producer of A/B-, “this is not something investors wanted to buy in the first place”, he says. Michael Hünseler, head of credit research at Deka Investment, believes that the issuer community was not totally in accordance with the initiative, mainly down to a lack of information. “It seemed like the treasurers were upset with the proposals, because they had not been heard. They would be more comfortable with things if their views were also being received,” he says.

Hünseler adds that things are still in the balance but becoming more constructive. He stresses the point that issuers are not being confronted by a list of demands but a wish list, which will make a big difference in the negotiations.

The BVI group still needs to decide on its next step, though Hünseler suggests that a combined meeting with issuers and bankers could be set up. But before that is done, the group need to have its requirements formulated in detail, say in a checklist, “something that the sell side can adhere to. If not, then we can ask them to explain why not,” says Hünseler.

BVI’s Siebel adds that it would be useful to discuss proposals for an information covenant. Suggestions have been made for the BVI to talk to the International Primary Market Association about how to word such a covenant, although Siebel was not in a position to say when.

The original G26 members are being kept informed about the developments in Germany and there are plans for them to talk to the European Federation of Investment Funds. Any such forum will aim to explore potential avenues of co-operation available to the relevant parties.

In the first half of June, the BVI will make a presentation to the German Pension Fund Association, and the German Insurers Association has already scheduled a meeting for July for its members.

The proposals are gaining more traction in the marketplace as a broader investor base discusses the subject, although it still remains to be seen what the final outcome will be. Nevertheless, the BVI group still stresses the importance of the proposals being a partnership that will hold steady in good and bad times.

“We need a common understanding very soon on what can help bond investors at the end of the day. Things are gaining momentum and they cannot be stopped. But there are too many now discussing and dealing with the subject to say that all is quiet on the Western front,” says Siebel.