Monday, January 27, 2014

The Not So Tender Offer: What To Do When Your Bond Is Called Early

And Why You Should Almost Always Accept The Offer

As I mentioned in a recent post about the high yield bond market (, junk bond issuers have been taking advantage of the lower rates and easy terms available to them in the new issue market.  When existing junk bonds are refinanced, sometimes the issuer will simply exercise the call option embedded in the bonds (usually at a fixed price that starts at par plus 6 months of coupons and declining as the bond nears maturity).  However, often junk issuers wish to refinance their bonds before the call date has arrived or their lawyers are worried about the possibility of a technicality in the existing bond covenants that may prevent them from issuing new bonds to refinance the old ones.  When this happens junk issuers will initiate what is known as a "tender offer" to get the owners of the existing bonds to go along with their intended refinancing.  Unfortunately, there appears to be some confusion on the part of retail bond owners about the best course of action when confronted by a tender offer.  This post is about what to do if you own a bond that is the subject of such an offer.

First, what exactly is a tender offer?  No, this is not something communicated by a lady of negotiable affection. Here is sample language from a Navios Acquisition (NNA) bond tender offer conduct in 2013:

The Offer is scheduled to expire at 12:00 midnight, New York City time, on November 26, 2013, unless extended or earlier terminated by the Co-Issuers (the "Expiration Time"). Tendered 2017 Notes may be withdrawn at any time at or prior to 5:00 p.m., New York City time, on November 12, 2013, unless extended or earlier terminated by the Co-Issuers (the "Consent Time"). Other than as required by applicable law, tendered 2017 Notes may not be withdrawn after the Consent Time. Holders tendering their 2017 Notes at or prior to the Consent Time will be required to consent to certain proposed amendments to the indenture governing the 2017 Notes.
Holders who validly tender (and do not validly withdraw) their 2017 Notes at or prior to the Consent Time will be eligible to receive total consideration of $1,048.94 per $1,000 principal amount of 2017 Notes, which includes a cash consent payment of $30.00 per $1,000 principal amount of 2017 Notes tendered (the "Consent Payment"). The Offer contemplates an initial payment date, so that holders whose 2017 Notes are validly tendered at or prior to the Consent Time and accepted for purchase should expect to receive payment as early as November 13, 2013.
Holders who validly tender their 2017 Notes after the Consent Time but at or prior to the Expiration Time will not be eligible to receive the Consent Payment, but will be eligible to receive the tender offer consideration of $1,018.94 per $1,000 principal amount of 2017 Notes tendered."

A tender offer is a formal offer made to buy a security (in this case a bond) from any and all holders.  The buyer sets the terms, including deadlines, prices to be paid and sometimes other conditions (such as the maximum amount to be bought or the requirement that the new bond issue be successful to refinance the old one).  In the case of public bonds (what retail investors would be holding), tender offers must be filed with the SEC and are viewable in all their detail on the SEC's EDGAR filing website.  When junk bond issuers make a tender offer, the terms of the offer usually include two deadlines (early and final) and a redemption price that includes what is known as a "consent payment" (more about the consent payment later).  Typically, there will be an early deadline and a final deadline to tender your bonds and bondholders meeting the early deadline will get a higher price (generally at least 3% of par or more over the final deadline price; NNA offered a 3% early tender premium).  At any time, the issuer reserves the right to walk away from the tender offer, although this is rarely done unless the new bonds to be issued to refinance the old ones do not go off as planned.  With the difference in prices offered to redeem the bonds between the early and final deadline for tendering, bondholders are highly incented to tender their bonds by the early deadline.  If you are planning on tendering your bonds (which is usually the right choice), make sure you tender in time for the early deadline in order to maximize the redemption amount you receive.

So the mechanics as I have described them are relatively straightforward.  You might be thinking that you like the bond you own, the issuer is strong enough to issue new bonds, and you want to hang onto the bond and enjoy the income rather than participate in the tender.  In most cases, this is not a great idea for a number of reasons.  First, many tender offers are done when the bonds are already callable or will become callable soon.  Even if you do not participate in the tender offer, the bonds will be called soon anyway.  If the tender will give you a higher exit price than the call would, it makes no sense not to take what is offered in the tender.

Second, the tender offer includes a "consent payment" as part of the early deadline bond payment for a reason.  Properly underwritten junk bonds generally contain a long list of covenants which restrict issuers from doing a number of things and require them to do other things, all intended to protect the bondholders from the issuer "betting it all on red" with the borrowed money.  However, the bond indenture almost always includes a provision that allows the issuer to do away with all the covenants if they can get 2/3 of the outstanding bonds and half of the bondholders to agree to do so.  The consent payment in the early tender is the mechanism by which the issuer gets the bondholders to agree to remove the covenants in the old bond issue.  Here is language from the recent NNA tender offer:

Navios Maritime Acquisition Corporation ("Navios Acquisition") (NYSE: NNA) announced today that Navios Acquisition and its wholly-owned subsidiary, Navios Acquisition Finance (US) Inc. ("Navios Acquisition Finance" and, together with Navios Acquisition, the "Co-Issuers") have commenced a cash tender offer (the "Tender Offer") for any and all of their outstanding 8 5/8% First Priority Ship Mortgage Notes due 2017 (the "2017 Notes") and a consent solicitation to eliminate or modify most of the restrictive covenants and certain events of default, and release the liens for the benefit of the holders on the assets that secure the 2017 Notes, and make other changes to provisions contained in the indenture governing the 2017 Notes (the "Consent Solicitation" and, together with the Tender Offer, the "Offer")."

As you can see, NNA sought bondholder consent to not only do away with the covenants, but also to release liens on the collateral securing the bonds (a fleet of ships).

If the tender offer is successful, any bondholders who do not participate and do not have their bonds called typically are left holding bonds which are totally devoid of covenant protection and which are usually effectively subordinated to the new bond issue that funded the tender offer (in the case of the NNA tender, you also would have gone from first lien mortgage bonds to unsecured bonds).  You do NOT want to own such paper, as in the event of a bankruptcy or restructuring you are likely to fare poorly.  As a result, it is generally wise to accept the tender offer rather than attempt to hold out and keep your bonds.

Why might you choose to spurn an issuer's tender offer?  There are relatively few cases where you would want to do so.  One possible case is when the issuer might have to offer a bigger premium than its initial tender offer.  This situation is rare and since you can withdraw your bonds from the tender up to the deadline in most cases, you might as well tender in time for the early deadline.  Second is if the bonds are only partially tendered for.  For example, if an issuer has $600MM outstanding in a particular issue and tenders for $300MM you might well choose to keep your bonds.  Chesapeake Energy (CHK) has conducted multiple partial tenders over the years as it seeks to manage its debt load.  If you choose to keep your bonds, read the tender offer carefully to ensure that the issuer is not seeking to remove covenants and other protections from your bonds.

As always, this is not meant to be investment advice.  Consult your advisors, do your own due diligence, take your own risks.  I am just some dude pontificating on the internet.

No comments:

Post a Comment