As governments and central banks across the globe intervene to address the impact of COVID-19, finance and treasury departments are working to determine how best to mitigate the impact of the pandemic on their financing arrangements.
Many of the challenges resulting from the current crisis are of almost universal application. The solutions are likely to be more fact-specific.
Liquidity concerns are at the top of the agenda for most corporates, as travel bans and national lockdowns continue to proliferate.
For some businesses, this is due to a sharp reduction in cash flows.
For others, the opposite is true: increased working capital demands may be due to needing to ramp up production, for example, to meet medical or stockpilers’ needs.
Options include drawing on existing revolving credit facilities (RCF), using accordion or incremental facility mechanics to increase facility limits or raising new sources of finance.
We have seen companies use all of these options in recent days, the most appropriate choice being fact-dependent.
The decision to draw an RCF might be perceived as aggressive (as readers may recall from 2008), particularly when good grace from relationship banks might be required down the line.
Organisations are generally prompted by a need for immediate cash flow. However, given that conditions for rolling over revolving facility drawings are typically less onerous than for new utilisations, treasurers might be more concerned that drawstop defaults could emerge in the future if conditions deteriorate.
Additional liquidity facilities are being sourced in multiple forms. Bank loans are often the first port of call, given the currently limited access to the bond market.
We have also seen corporates looking at alternative sources of finance, such as receivables and payables financing arrangements.
The US private placement market appears open for business, particularly for borrowers with a track record.
There is also, of course, widespread interest in government schemes aimed at supporting liquidity.
Governments around the world have acted swiftly to support corporate lending. In March, the Federal Reserve launched a bond-buying programme on both primary and secondary markets and the Bank of England introduced the COVID-19 Corporate Funding Facility (see below for further details). A number of other countries are working on or have announced similar national schemes.
Many companies are concerned about actual or anticipated covenant-compliance issues, which if not appropriately managed have the potential to hinder access to liquidity.
The immediate concern for many is financial covenant compliance. Companies are debating covenant holidays, leverage spikes (perhaps operated at the election of the borrower) and the merits of pre-emptive waivers.
A key challenge for treasurers entering any dialogue with lenders is that they are able to provide sufficient information on the base and worst-case impact of COVID-19 on the business, against a backdrop that changes from day to day.
While this may change as the scale and scope of available government support becomes clearer, covenant holidays are emerging as the preferred option for a number of borrowers, as companies struggle to pin down quite how much headroom might be required to weather the storm.
Banks are examining requests very carefully and are generally keen to limit waivers to the necessary minimum. Waivers may be combined with further information requirements and additional restrictions on other activities, for example, dividend payments.
Treasurers are also seeking advice on areas of vulnerability within financing arrangements beyond financial covenants.
Whether waivers are required is heavily dependent on the business and the terms of the documentation. The most common questions we have faced so far concern material adverse change representations and events of default that apply on a suspension or cessation of the borrower’s business in light of widespread enforced closures.
Reporting and disclosure obligations are also key.
For many, the escalating situation has coincided with the annual reporting and audit cycle.
As well as broader disclosure considerations, those facing funding, liquidity or covenant-compliance issues may need to demonstrate to auditors that appropriate arrangements are in place to support customary going-concern statements.
More generally, significant post-balance sheet adjustments as well as practical issues presented by working restrictions imposed by companies and audit firms may delay timetables for completing audits and finalising financial statements.
These delays may have knock-on implications on the ability of treasurers to comply with information and reporting covenants under public and private borrowings.
Our general experience so far is that banks are doing their best to be supportive. However, credit committees will inevitably have questions and the sheer number of companies requiring attention will have an impact on time scales and, potentially, outcomes.
Individual contact with relationship banks is likely to be very important. Banks’ tolerance for covenant relaxations and requests for additional liquidity should become clearer, as well as the terms on which such requests are likely to be granted.
The main news for larger and UK-focused businesses is the opening of the UK government’s COVID-19 Corporate Funding Facility (CCFF) on 23 March. This has generated significant interest among corporates, including many enquiries about eligibility.
The CCFF is operated by the Bank of England on behalf of HM Treasury. It will be available for a minimum of 12 months and thereafter as long as required.
A special-purpose entity operated by the Bank will purchase commercial paper issued by businesses making a ‘material contribution to the UK economy’.
UK-incorporated companies with a genuine business in the UK will likely be considered to meet this requirement whether or not they have a foreign parent.
However, eligibility decisions will be made at the discretion of the Bank and applicants will be required to explain the basis of their contribution in their application.
The CCFF is focused on non-financial corporates. It is also designed only for firms in sound financial health prior to the economic shock of COVID-19.
Companies with investment-grade ratings from the main rating agencies at 1 March 2020 will qualify, subject to meeting the other eligibility criteria. The Bank’s CCFF web page encourages currently unrated issuers to speak to their bankers in the first instance to determine whether they viewed the internally as equivalent to investment grade as at 1 March 2020.
If so, the Bank will then make an assessment of whether the issuer can be deemed as equivalent to having a public investment-grade rating. This assessment ‘will draw on a range of information, including the range of banks’ internal ratings across all of a firm’s commercial bank counterparties.
A firm will need to be rated consistently by its banks as investment grade in order to be deemed equivalent to having a public investment-grade rating”.
Alternatively, the issuer or its bank can get in touch with one of the major credit rating agencies to seek an assessment of credit quality for the purposes of the CCFF, in a form that can be shared with the Bank and HM Treasury.
The Bank’s CCFF guidance specifies eligibility requirements for commercial paper purchased by the CCFF, which include a minimum amount of £1,000,000 and a maximum maturity of 364 days.
The paper will need to be guaranteed if issued by a finance company or where otherwise required to ensure it ranks on an equal footing with the senior unsecured debt obligations of the issuer’s group.
The authorities may impose limits on individual issuers, but these will be communicated privately by the Bank of England.
As the Bank refines its CCFF guidance, treasurers are advised to refer to their banks, their advisers and the latest version on the Bank’s CCFF web page for up-to-date information.
Those interested in the scheme will need to consider and engage with the Bank on how to fulfil the eligibility criteria. Questions about eligibility can be sent to the Bank using CCFFeligible.issuers@bankofengland.gsi.gov.uk
Other considerations for potential participants include the impact of CCFF participation on existing financial instruments, for example, borrowing limits and limits on indebtedness.
Participants are also asked to confirm to the Bank the absence of Events of Default or similar under other financing arrangements, meaning any covenant-compliance issues, technical or otherwise, will need to be addressed as part of the process.
To find out more about any of the issues addressed in this article, please contact Philip Snell, Oliver Storey, Matthew Tobin or Kathrine Meloni at Slaughter and May.
Kathrine Meloni is a special adviser at Slaughter and May
This article was taken from the April/May 2020 issue of The Treasurer magazine. For more great insights, log in to view the full issue or sign up for eAffiliate membership
