There are some financial jobs that come with a perhaps undeserved swashbuckling cachet. “Oh, you know, I do hostile takeovers,” you say, and a certain crowd will treat you like you just got back from plundering a Spanish ship-of-the-line, even though you mostly sit in a cubicle updating spreadsheets and changing the wording in press releases. Then there are other jobs. When you say “I do liability management for insurance-company bonds,” everyone instantly thinks of spreadsheets.

Still, you swashbuckle on unrecognized, taking a quiet satisfaction in your piratical ways. Everyone in this story is a pirate, and this is a bond that somebody made or lost or made and lost a lot of loot on:

Read the Bloomberg article, and/or our last discussion of this situation a month ago, for more information. The quick back story:

  • Bank of America and MBIA hate the hell out of each other for mortgage-related reasons that honestly even they have probably forgotten.
  • MBIA is trying to move its good muni-insurance business out of the subsidiary containing its bad toxic-misery businesses, in order that it can continue to be a good muni-insurance business.
  • To do that, it needs the consent of some bondholders to amend their bonds, so it offered them a package consisting of (1) a 1% fee and (2) a probably improved underlying credit to get that consent.
  • Then BofA came in and offered a price of 100 – for bonds that were trading in the 60s – to buy one series of those bonds to block the consent.

Blocking the consent would arguably improve the credit that BofA could look to on some ongoing contracts it has with MBIA, but it seems clear that BofA’s main purpose was less to protect those specific contracts than it was to (1) fuck with MBIA and (2) thus encourage MBIA to settle its own lawsuits against BofA to avoid further fucking-with.

Anyway, I sort of expected this tactic to work insofar as MBIA’s consent offer was worth, let’s say, 70-80 uncertain cents on the dollar, while BofA’s tender was very clearly worth 100 cents on the dollar of actual cash. I was not expecting this:

MBIA received the consents of holders as of the record date of a majority in principal amount of all outstanding Notes under the 1990 Indenture voting as a single class and from holders as of the record date of a majority in principal amount of the outstanding 5.70% Senior Notes due 2034 issued under the 2004 Indenture, prior to the expiration time of the consent solicitation. As a result, MBIA and The Bank of New York Mellon, as trustee, have entered into supplemental indentures, which effect the above amendments to the 1990 Indenture and the 2004 Indenture described in the Consent Statement. …

MBIA also announced that it has repurchased approximately $170 million of outstanding principal amount of Notes issued under the 2004 Indenture in privately negotiated reverse inquiry transactions directly from holders as of the record date that had consented pursuant to the consent solicitation described above. MBIA has previously disclosed that it may repurchase its debt from time to time in the open market or in private transactions.

So, first of all: MBIA, a … somewhat troubled … company with $298 million in cash in the bank, spent more than half of its money buying back distressed bonds “at or above par,”1 meaning that it overpaid by at least $50 million. Second: while exit consents are reasonably common – you try to get a consent for an amendment by offering, instead of “we’ll give you 1% in cash and you keep your bonds,” “we’ll buy the bonds from you after you consent” – normally they are somewhat broader than this: they’re “we’ll buy the bonds from anyone who wants to sell, and amend whatever’s left,” not “we’ll buy 52% of the bonds in reverse inquiry transactions and screw the rest.” If you gave MBIA your consent for $1, which was the public offer they made, you’d be pissed to learn that they gave other, favored bondholders $100 for their consents.

Of course no one did that: out of $329mm of bonds, MBIA bought $170mm, BofA bought $136mm, leaving $23mm of … I mean, I was going to say “of idiots,” and that’s probably right, though maybe there’s some further convoluted long game here where the last holdouts can convince MBIA and/or BofA to buy their bonds at like 200. I suspect not.

The latest is that Bank of America completed its tender offer yesterday, buying $136mm, and:

Bank of America also announced that, in a letter to MBIA and the trustee for the Notes, [BofA] has issued a notice of default under the Indenture caused by MBIA’s violation of its covenants under the Indenture through, among other things, the purported adoption of a proposed amendment in violation of the terms of the Indenture.

There’s an accompanying lawsuit. The claim appears to be that the $170mm of bonds owned by MBIA shouldn’t be allowed to vote on the amendment, because they’re owned by the company, and the indenture says that bonds owned by the company can’t vote.2 If you take out the company’s bonds, then the vote against the amendment is, I’d guess, roughly 136 to 0 with 23 abstentions, though again I don’t know what the $23 million people are thinking.

My initial read here was that this is just a further case of pure unfocused messing with MBIA. The order of operations, according to that MBIA press release, is not “we bought the bonds and then voted them to consent” but rather “the holders consented and then sold the bonds to us”: when they voted, they weren’t owned by the company, so their votes should count. Exit consents, again, are pretty common, and they work on exactly that theory. The fact that Bank of New York Mellon, the indenture trustee, agreed to the amendment also suggests that it’s pretty clearly valid: indenture trustees are by their nature timid beasts and have no interest in pushing the boundaries of the law.

That said the MBIA deal does look shady, no? Exit consents open to everyone are one thing; privately negotiated way-above-market-value trades with selected holders that are not open to everyone are something different. You could spin out various horribles here: issue $100mm of bonds, buy back $51mm at a premium from favored holders, and use their consent to neuter the remaining $49mm and make them worthless.3 That’s a winning trade for the company,4 but the holders of the remaining $49mm would have a legitimate complaint there.5

Does BofA? Eh, maybe not, but it’s hard to see why that would stop them now.

Bank of America Says MBIA Defaulted on Contested Securities [Bloomberg]
Bank of America sues MBIA over tender offer interference [Reuters]
Earlier: You Fight With Bank Of America Over Bad Mortgages, Bank Of America Fights Back

1. That’s from the Bloomberg article; TRACE data is less clear, though there are some trades at 100.5 and obviously that chart is suggestive.

2. Here’s the indenture, which says among other things, “in determining whether the Holders of the requisite principal amount of the Outstanding Securities have given, made or taken any request, demand, authorization, direction, notice, consent, waiver or other action hereunder as of any date, … Securities beneficially owned by the Company or any other obligor upon the Securities or any Affiliate of the Company or of such other obligor shall be disregarded and deemed not to be Outstanding.” So that’s where BofA’s getting its ideas from. Here, incidentally, is the amendment.

3. This isn’t foolproof: the MBIA indenture, like most such indentures, won’t let a majority consent to big things like maturity extension or principal reduction, so you have to find creative ways – covenants and subordination and stuff – to make the bonds worthless.

4. Once.

5. Also, I am not fully persuaded by this discussion of how the Argentina pari passu rulings might make it harder for companies to pay one creditor ahead of another equally ranking creditor, but: if you are so persuaded, then that would seem relevant here. MBIA is not, like, rolling in money. If you’re an MBIA bondholder – even if you’re not a holder of the 5.7% bonds that got screwed with here, but instead a holder of the other series of bonds that consented just for their 1% fee with no buyback – you might be kind of pissed that MBIA spent so much money buying bonds at par, worsening its own credit situation, without giving you a chance of participating. “What happened to treating us pari passu,” you might even say.

8 comments (hidden for your protection)
Show all comments ↓

Comments (8)

  1. Posted by anonhfm | December 14, 2012 at 10:53 AM

    The legal landscape for abusive exit consents is changing. See the recent UK decision Assenegon v. Ango-Irish. Court ruled that the use of exit consents was so coercive as to be illegal. https://docs.google.com/file/d/0B8hzbUJuMAkqTkNVN

    Exit consents have always struck me as bogus. A holder winds up voting to change terms on a bond in which he no longer has any interest. In all but the most formalistic legal sense, the issuer is voting his own bonds. It creates an opportunity for an abusive issuer to create a prisoners' dilemma among dispersed bondholders, if the issuer offers buyback terms that are better than what it will impose by the use of exit consents as part of that buyback. Some bondholders have seen the potential for mischief — see the prospectus of Uruguay's restructured bonds, which has a provision forbidding the use of exit consents to impose worse terms than what are offered in the related exchange offer.

  2. Posted by Watchin from sidelin | December 14, 2012 at 11:02 AM

    Public bonds typically permit exit consents and private placements typically don't. If you don't want to get screwed, don't buy publics (or get a better relationship with the issuer). I have no sympathy for BofA for getting outmaneuvered. Props to MBIA. Hope it was worth the price paid.

  3. Posted by Watchin from sidelin | December 14, 2012 at 11:13 AM

    Not in NY. Clear language, intent of the parties, sophisticated parties, yada yada yada. It's easy to close this contractual hole if the parties wanted to. BofA's mistake here was probably that it didn't pay attention to language permitting the issuer to make private offers BEFORE committing $136MM to this endeavor. Whoops.

    - lawyer who pays attention to these things

  4. Posted by R. Ryan | December 14, 2012 at 11:48 AM

    What is the English translation of the Latin phrase, "pari passu"?

  5. Posted by UBS Multitasker | December 14, 2012 at 11:55 AM

    Can you clarify that third part about "sophisticated parties?" Because I think I just hit on a winning idea to get us out of some losing trades, tyia.

    -UBS General Counsel and FICC Trading MD (this is what you get when you fire everyone who only had one role)

  6. Posted by guerst | December 14, 2012 at 12:03 PM

    "made or lost or made and lost a lot of loot on"

    talk about a mouthful…

  7. Posted by FKApmco | December 14, 2012 at 12:43 PM

    Andy is at the shooting range about a quarter mile from his house with his ex-Marine buddy Tom. Andy is telling Tom he wants to exit his marriage but his wife won't consent. Tom says he can help and asks Andy if they can see his house from the range.
    Andy points to his house and says "red cedar shingles, green gutter, brick chimney on the left."
    Tom picks up his bolt-action sniper rifle, looks through the scope and says "white cadillac XTS and red pick-up in the drive?"
    Andy says "caddie is my wife's and red pick-up is my friend Bill's."
    Tom says "I hate to have to tell you this Andy but your wife and your friend Bill are going at it like teenagers in your bedroom. I can fix this for you for $5,000 a shot."
    Andy says "shoot my wife in the head and shoot Bill in the balls."
    Tom says "this must be your lucky day. I can give you a two-for-one."

    -Shecky Assenegon

  8. Posted by P. Falcone | December 14, 2012 at 1:01 PM

    EXACTLY! Jesus, why won't people finally understand this, now will someone please buy these lightsquared bonds? I promise, you won't get screwed*

    *Via exit consents.