WASHINGTON — Bond lawyers and issuers are urging the Municipal Securities Rulemaking Board to withdraw or revise guidance that warns underwriters against consenting to changes for bonds that could hurt parity bondholders, unless the changes are authorized by bond documents.
Parity bonds are in separate issues, but have equal claims on the same underlying security and source of payment for debt service.
The National Association of Bond Lawyers urged the MSRB, in a nine-page March 8 comment letter, that “the draft notice not be filed for approval in its current form.” The group warned that the draft “could adversely affect municipal issuers and obligated persons and, in many instances, impair their rights under their existing bond documents.”
NABL said the issue of bondholder consent should be addressed through the rulemaking process, not via an interpretive notice.
Kristin Franceschi, NABL’s president, called underwriter consent a common, legal practice that is regulated by state laws and defined in bond documents.
“We don’t quite understand the [MSRB’s] concern, assuming [consent] is in accordance with documents and state law,” she said. “This happens all the time ... This is what’s in the contract.”
Three law firms and three issuers agreed. “When the underwriter buys the bonds they are a bondholder under the [bond] documents, said Kathleen C. McKinney, a former NABL president and lawyer at the Greenville, S.C.-based Haynesworth Sinkler Boyd, which filed a nine-page March 5 comment letter with the MSRB. “You have contractual agreements in the documents. You need to let those contractual agreements be enforced.”
In the last week, at least seven market participants commented on the MSRB’s Feb. 7 interpretive notice, which seeks to protect bondholders by restricting underwriters from consenting to bond-document changes during “the point in time that the securities are briefly owned by the underwriter, prior to distribution of the securities to investors.”
MSRB executive director Lynnette Kelly said the board is focused on instances when issuers bring new series of existing bonds to market. When that happens, underwriters briefly hold a majority of the bonds, and therefore are able to provide consent to issuers’ requests for changes to trust indentures, which are contracts between issuers and trustees, and other documents.
“In some instances, consent could adversely impact the rights of existing bondholders,” Kelly said.
The MSRB said some changes that “reduce the security for existing bondholders or the value of their bonds,” may violate the board’s Rule G-17 on fair-dealing. Examples could include eliminating a reserve fund, changing the priority of debt service or reducing the minimum debt-service conversion ratio, or the amount of collateral for existing securities, the MSRB said.
The interpretive notice said the board is not prohibiting underwriter consent to changes if the offering documents “expressly disclosed the bondholder consents could be provided by underwriters.”
Most letters posted on the MSRB’s website either opposed the notice or worried it could have adverse impacts.
Only one letter, from Robert Kane, chief executive officer of Bondview.com, a muni market information firm, supported the proposed guidance. He said bond documents should “explicitly state” if underwriters can give bondholder consent.
The MSRB guidance is needed because consent language is “deeply buried in the fine print,” where few retail investors look, Kane said in a three-page March 5 letter, noting that retail investors hold close to two-thirds of outstanding bonds.
He said home mortgage “truth in lending” standards should serve as a model for the muni market. But NABL said the guidance would restrict issuers’ rights and “incorrectly implies” that underwriter consent is obtained unfairly.
“We do not believe that an underwriter who helps an issuer effectuate such a consent in accordance with its bond documents and applicable state law should be viewed as dealing unfairly with those holders or engaging in any deceptive, dishonest or unfair practice,” the group said. “While the draft notice could be viewed as giving to outstanding bondholders an unintended benefit ... it would simultaneously deny issuers a right for which they had contracted.”