Effective, No Nonsense Debt Compliance
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Effective, No Nonsense Risk-Based Debt Compliance Understand Integrate Collaborate Mitigate Manage Jeff Wallace Jim Simpson Managing Director Managing Director Debt Compliance Services Debt Compliance Services www.debtcompliance.com 0 © 2017 Debt Compliance Services LLC Presentation Outline § Executive summary § How debt agreements are structured § Categorizing covenants by objective and risk § Writing concise yes/no questions § Using better tools than Excel § Q&A § About Debt Compliance Services 1 © 2017 Debt Compliance Services LLC Executive Summary Developing an effective, efficient debt compliance process requires: § Understanding how to read debt agreements § A non-legal approach for categorizing covenants by objective, type and risk § Developing a covenant checklist and questions initially requires only understanding the covenant’s required or prohibited action § Minimizing respondent interpretations by writing questions that simply ask about what happened to the covenant’s required or prohibited action § Minimizing the respondent burden by asking about covenants based on whether they need to be managed quarterly, annually, when triggered by events, or not at all § Having the Compliance Team responsible for ensuring the accuracy and completeness of the responses and then evaluating them against the Team’s interpretation of the full covenant text § Using better tools than Excel to manage the process 2 © 2017 Debt Compliance Services LLC The Human Side of Debt Compliance § With few tools and little corporate-wide support, debt compliance is the worst job in Treasury § It’s demoralizing to have the responsibility for mistakes that can have grave consequences to the company and your career that you can do little to prevent or manage § Transition risk to a new manager is high, so compliance managers are stuck with the job § An insufficient process is a wasted opportunity for teaching staff debt compliance, a critical skill for negotiating successful debt agreements 3 © 2017 Debt Compliance Services LLC Presentation Outline § Executive summary § How debt agreements are structured § Categorizing covenants by objective and risk § Writing concise yes/no questions § Using better tools § Q&A § About Debt Compliance Services 4 © 2017 Debt Compliance Services LLC How to Read a Debt Agreement 5 © 2017 Debt Compliance Services LLC Covenant Elements A covenant is any specified action whose failure to do or not to do is an event of default (EoD) and will have many, if not all, of these elements: 6 © 2017 Debt Compliance Services LLC The Agreement Covenants are Assigned to Specific EoDs The agreement’s covenants are referenced in first four to six Events of Default: Event of Default Category Cure Period 1. Reps & Warranties and incorrect reports, certificates, financial 0 Days statements and other documents furnished 2. Validity, enforceability, etc. of Loan Documents 0 Days 3. Principal payments, including Mandatory Prepayments 0-1 Days 4. Interest, fee and other required payments 0-3 Days 5. Specifically identified covenants, such as maintenance, 0-5 Days negative, reporting and notifications 6. All other covenants in a catch-all phrasing 30 – 60 Days § Cure periods reflect the importance the lenders attach to each category – If a cure period is not given, then it is zero days 7 © 2017 Debt Compliance Services LLC The Remaining EoDs are Stand-Alone Covenants Other Events of Defaults The next EoDs are requirements not appearing elsewhere in the agreement that must be included in the covenant listing: § Cross-default § Judgments § Cross acceleration § Cancellation of Material Contracts § Guarantors’ default § ERISA Events § Voluntary/involuntary § Governmental Actions bankruptcy/insolvency § Revocation of Licenses § Change of Control Cure Periods – Varies by specific default event, typically 0-5/10, sometimes 30 days 8 © 2017 Debt Compliance Services LLC Presentation Outline § Executive summary § How debt agreements are structured § Categorizing covenants by objective and risk § Writing concise yes/no questions § Using better tools § Q&A § About Debt Compliance Services 9 © 2017 Debt Compliance Services LLC DCS’ Lender Objective Methodology Facilitates Identifying Controlling & Subordinate Covenants 10 © 2017 Debt Compliance Services LLC Evaluating Covenant Risk by Cure Periods 11 © 2017 Debt Compliance Services LLC Categorizing Covenant Types by Risk Drives the Frequency of the Compliance Review 12 © 2017 Debt Compliance Services LLC Presentation Outline § Managing default risk § How debt agreements are structured § Categorizing covenants by objective and risk § Writing concise yes/no questions § Using better tools than Excel § Q&A § About Debt Compliance Services 13 © 2017 Debt Compliance Services LLC Writing Concise Yes/No Questions § Write broad, open-ended questions in a yes or no format asking whether the covenant’s prohibited or required action happened or not – Encourage false positives rather than false negatives § Do not ask respondents to make materiality judgments: “Was there an asset sale?” not “Was there a material asset sale?” § To be precise and concise, it is often best to use the covenant’s defined terms with initial caps in the questions – Provide respondents access to these defined terms § It is the Compliance Team’s responsibility to – Ensure the responses are accurate and complete and – Evaluate the response against the covenant text to determine what course of action the response requires 14 © 2017 Debt Compliance Services LLC Writing “Action Only” Questions Edited Covenant Text example (over 600 words in total): Each Loan Party covenants … that… the Loan Parties … and …their Restricted Subsidiaries [will not] to do any of the following: • Enter into or permit to exist any encumbrance or restriction that (a) limits the ability (i) …to make Restricted Payments …, (ii) … to guarantee .. or (iii)… to incur ... Liens …. • provided, that, ….. Or provided that, ….this Section shall not prohibit (i) restrictions … in any agreement… (A) (1) …..permitted by clause (1) …. so long as… • the restrictions … in clause (a) or (b) that are contained in such agreement or (B) … (i)…, (ii) …, (iii) …, (iv) …, (v) … under clause (r) of the definition … Liens …., (vi) …, (vii) …, or (viii)… 15 © 2017 Debt Compliance Services LLC Writing “Action Only” Questions - 2 1. Identify the party or parties governed by the covenant 2. Identify only the restrictions, ignoring pre-conditions, exceptions, post-conditions, etc. 3. Write broad questions whether the parties violated the restrictions § Do any of the Loan Parties or the Restricted Subsidiaries have any encumbrance or restriction that limits their ability to maKe Restricted Payments? § Do any of the Loan Parties or their Restricted Subsidiaries have any encumbrance or restriction that limits their ability to guarantee the Indebtedness of any Loan Party? 4. If the response indicates an issue, the Compliance Team evaluates the facts against the full covenant text to determine what needs to be done 16 © 2017 Debt Compliance Services LLC Presentation Outline § Executive summary § How debt agreements are structured § Categorizing covenants by objective and risk § Writing concise yes/no questions § Using better tools than Excel § Q&A § About Debt Compliance Services 17 © 2017 Debt Compliance Services LLC Excel is a Poor, Static Tool for Debt Compliance Using Excel as § A multi-agreement covenant checklist and questions quickly becomes cumbersome, then unmanageable, and always subject to errors § As a questionnaire often results in incomplete answers and always difficulties in aggregating and then evaluating answers from multiple respondents § Any Excel summaries of the covenants are an unreliable source to ascertain compliance issues § As a debt calendar risks corruption when rolled over to next year and often has no explicit management oversight of the upcoming tasks to be done 18 © 2017 Debt Compliance Services LLC Using Better Tools Instead, it is more effective to develop a web debt compliance database structure that allows: § Developing the covenants and questions using an intelligent form § Web questionnaires that require full and complete answers § Web reporting to evaluate responses linked to the covenant text generating the questions § Effective, efficient interpretation of covenant issues with hyperlinked debt agreement webpages with multi-agreement contextual searching § A web calendar process for ensuring that all debt deliverables and payments are done on the required business day 19 © 2017 Debt Compliance Services LLC The DCS Covenant Manager℠ Web Solution 20 © 2017 Debt Compliance Services LLC Presentation Outline § Managing default risk § How debt agreements are structured § Categorizing covenants by objective and risk § Writing concise yes/no questions § Automate the debt compliance § Q&A § About Debt Compliance Services 21 © 2017 Debt Compliance Services LLC DCS’ Value Proposition § With its reputation, funding, GAAP, and SOX consequences, default risk is a significant business risk that requires a rigorous compliance process § We provide a comprehensive, best-in-class, risk-based, automated debt compliance process in the cloud that minimizes default risk by: – Identifying the at-risk covenants that must be managed quarterly or annually or when triggered by events from the low and no risk covenants. – Training and documenting compliance by SMEs outside of treasury on their truly-at risk covenants in their areas responsibilities with our integrated, risk- based, web questionnaires