AUSTRALIA Trends and Developments Contributed by: Alastair Gourlay, Lewis Grimm, Emily Tsoi and Thanasis Dogoritis, Jones Day
syndicated, eroding relationships between bor - rowers and lenders. These factors provided fertile ground for the rise and spread of lender-on-lender violence – otherwise known as liability management trans - actions (LMTs). LMTs involve taking advantage of loopholes in debt documents to allow one group of creditors obtaining a higher priority to the property of a borrower than it had before the relevant transaction and another group of creditors losing priority to the same assets. As the interest rates continue to rise and infla - tion remains strong, more borrowers are facing liquidity challenges and upcoming maturity walls in a tight capital landscape, prompting borrow - ers and their sponsors to consider using their legacy document flexibility to enter into LMTs – effectively facilitating a broad range of capi - tal restructuring which would otherwise not be possible within the scope of their existing loan documents. The following examines the three most common types of LMTs. “Drop-Down” Transactions In a drop-down transaction, the borrower typi - cally transfers valuable assets supporting the creditors’ existing loans from within the guar - antor group to an “unrestricted subsidiary” or a “non-guarantor restricted subsidiary” sitting out - side of the obligor group. The transfer is usually executed through the basket capacity provided in the borrower’s existing covenants. As an unre - stricted subsidiary is not subject to any existing covenants and is not required to provide credit support for the existing loans, such subsidiary can therefore incur new loans which are secured by the assets being transferred over. On the other hand, although “non-guarantor restricted subsidiaries” typically are subject to covenant
debt limitations, there tends to be more ability of the obligor group to transfer assets to them. “Uptier” Transactions In an uptier transaction, the borrower collabo - rates with a class or part of a class of creditors to improve their position in the capital struc - ture relative to other creditors. In some more prominent cases, this will involve the majority creditors amending existing senior secured debt documents to effectively issue new senior prim - ing debt. The latter ranks ahead of the existing senior secured debt, with the majority creditors typically being able to exchange their existing debt for the new “super senior” priming debt, leaving the non-participating creditors with the old junior ranking debt. The complexities in executing up tier transac - tions and LMTs in general have recently been demonstrated by the divergent rulings in the landmark cases of Serta and Mitel, both delivered on New Year’s Eve last year. Despite these cases involving uptier transactions, the two appellate courts involved, located in different US States, came to different conclusions based on nuanc - es in the drafting of the loan documentation. In Serta, the court ruled that the debt exchange supporting an uptier transaction initiated by the borrower was not an “open market purchase” within the meaning of their credit agreement, as it was a privately negotiated transaction with certain existing lenders rather than executed on the secondary market for syndicated loans. The uptier transaction was therefore not be permit - ted. Since uptier transactions commonly rely on an “open market purchase” exception to pro rata sharing the proliferation of non-pro rata exchanges may slow down in the wake of the Serta decision. By contrast, in Mitel, the par - ties’ credit agreement did not rely on the “open market purchase” qualifier, but instead provided
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