20 January 2013

Simple Corporate Bonds - positive steps towards developing a retail bond market in Australia

Good news for listed corporates interested in exploring the retail bond market, with Treasury’s long-awaited release of its draft legislation to reform disclosure and liability for simple corporate bonds.

New measures to streamline simple corporate bond offerings

The proposed reform would significantly change the legal processes, documentation and liability for simple corporate bonds offered to retail investors.

Importantly, it removes an anomaly in the current law that requires an IPO-style “full” prospectus for an offer of simple corporate bonds by a listed company. That same listed company could issue additional equity to its shareholders with an investor presentation and a “cleansing statement” released on ASX or, alternatively, raise debt from the wholesale market with a simple offering memorandum and term sheet.

The reform aims to reduce the disparity between requirements for retail debt offers, retail rights issues of additional equity and wholesale debt offers. While important differences remain, the reform could bring those processes closer together.

What qualifies as a “simple corporate bond”?

A simple corporate bond offer would have to fit within certain specified criteria:

  • Listed issuer or a subsidiary: the issuer must have continuously quoted ASX securities on issue already (or be a wholly owned subsidiary, guaranteed by the listed company), and be subject to, and comply with, the continuous disclosure regime.
  • Offer size: the minimum offer size is A$50 million.
  • Senior unsecured: we understand it is intended that the “simple corporate bonds” should not be subordinated, other than to secured debt (although currently that is not well expressed in the draft legislation, and will require some changes).
  • A$ bonds only: the bonds must be Australian dollar denominated debentures. The same price must be payable by all persons who accept the offer (not exceeding A$1,000 per security).
  • Up to 10 year fixed term: principal and accrued interest must be repaid at the end of a fixed term of no longer than 10 years.
  • No deferral or conversion: interest cannot be deferred or capitalised, and the bonds cannot convert into another class of securities.
  • Fixed or floating rate: the bonds can have a fixed interest rate, or a fixed margin over a floating base rate.
  • Step-up, but no step-down: the fixed margin or fixed interest rate can step-up during the term, but cannot be decreased. This does not prevent variations in a floating base rate.
  • Limited early redemption rights: the circumstances in which the bonds can be redeemed before maturity are limited to a number of specified events. These include where they are redeemed at the request of the holder, a buy-back, on change of control, where there are changes to the deductibility or withholding tax status, and where there are fewer than 10% of the securities from the original offer remaining on issue.

There are also a number of qualifying criteria relating to the issuer’s (or listed guarantor’s) continuous disclosure and periodic disclosure track record, trading suspensions, and audit reports – not dissimilar to the current criteria under ASIC’s vanilla bonds class order.

Proposed changes

The key changes would involve:

  • Part 1 - Base prospectus: a base prospectus with a 3 year life, which can be refreshed from time to time with a replacement base prospectus.
  • Part 2 - Offer-specific prospectus: a short prospectus (expected to be limited to offer-specific terms and some updating information) issued at the time of each offer, that combines with the base prospectus.
  • Reduced director civil liability: directors cease to have “deemed” civil liability on the combined prospectus. Directors continue to have “involvement” based civil liability, but the due diligence defences continue to be available.
  • Rationalised criminal liability: in addition, the reforms to criminal liability permit directors to have reasonable reliance on others and acknowledge “honest belief” based on reasonable enquiries, as part of taking reasonable steps to ensure that the prospectus is not misleading or deceptive. These changes remove some anomalies in the criminal liability regime that otherwise applies to prospectuses.
  • Depository interest machinery: the reforms include some mechanics around trading depository interests in simple corporate bonds, rather than the bonds themselves. While the Explanatory Memorandum does not explain the intent of these changes, we expect them to form part of a foundation for linking wholesale and retail trading platforms, and to operate in a similar manner to the recently enacted reforms to allow trading in depository interests in Commonwealth Government Securities.
  • Incorporation by reference and updating documents: the reforms include mechanics for updating the base and offer-specific prospectuses, and for incorporating information by reference – broadly consistent with current requirements for prospectuses.
  • No exposure period, after the first issue: a 7 to 14 day exposure period would apply to an initial offer of simple corporate bonds, but will not apply to later offers that differ only as to the term, interest rate and interest payment dates.
  • Content requirements will be in regulations: yet to be released regulations will prescribe the content for each part of the 2-part prospectus.

Other customary features of prospectuses would apply, such as “deemed” underwriter liability for the whole document, the requirement for consents to be named and director consents to lodgement, ASIC lodgement requirements and ASIC oversight powers.

Will it work?

To kickstart a deep and vibrant retail bond market will take more than legislative reform.

However, the significance of this first step should not be underestimated. These are significant and important reforms, that take advantage of the disclosure platform provided by Australia’s continuous disclosure regime. They are also the first step in removing anomalies in Australia’s securities law regime for offers of debt and equity to retail investors.

There are other commercial and market forces that will need to come into play to create a retail bond market, including pricing, demand and the willingness of issuers, intermediaries and investors to help develop this market. Mechanisms enabling the wholesale market to link to the retail platform will assist, as institutional leadership is a key component in creating a retail bond market.

A key to the success of the legislation will be the content requirements in the regulations. It is important that the regulations:

  • Enable companies to keep content short and simple

  • Recognise that more “changeable” information can be dealt with by continuous disclosure rather than in a prospectus

  • Keep applicable policy in check so that the content requirements do not creep up to the level required for a section 713 transaction-specific prospectus.

What could be improved?

There are some areas of the draft legislation that could be improved, or that require some drafting changes to achieve the intention of the reforms. These include:

  • Ranking: some drafting work is needed to clearly state the ranking requirements, so that it is clear that the bonds can rank equally with other unsubordinated and unsecured debt (effectively senior unsecured).
  • Subsidiary finance vehicles: the drafting needs to clarify that a wholly owned subsidiary issuer need not be directly owned by the listed guarantor – issuers should be able to be held through intermediate holding companies.
  • Managed investment schemes: there are inconsistencies in the drafting that currently make it difficult for listed managed investment schemes to issue simple corporate bonds within the legislative provision. From some aspects of the draft, it appears this flexibility was intended to be covered.
  • Supplementing the base prospectus: currently a base prospectus may only be updated by a replacement (rather than a supplement), and it is not clear whether updating information contained in the offer-specific prospectus is effective as an ongoing update to the base prospectus.
  • More flexible incorporation by reference needed: the incorporation by reference provisions currently repeat all of the flaws in the original section 712. A better mechanism would be a simple “reference and description” mechanism, including the ability to incorporate future documents by reference (eg the most recent financial statements). That would reduce the red tape in keeping the base prospectus up to date.

Scope for further reform?

These reforms are a great step in the right direction to make the issuance process for simple corporate bonds more straightforward.

Even better would be reforms that took simple corporate bonds outside the prospectus regime altogether, to make use of a cleansing notice process similar to that for “lo-doc” rights issues or even wholesale convertible bonds. That would enable issuers to follow the same processes and use the same documentation adopted by the wholesale market, with even greater consistency between liability regimes. Australia’s continuous disclosure regime offers the perfect platform for further reform of that kind. That may have been a bridge too far for Treasury this time around…

We strongly encourage issuers and advisers in the market to engage with Treasury on these reforms.

For more information, click here to see partner Shannon Finch discuss the proposed reforms and predictions for 2013 with BRR Media.

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