S&P - Public Finance Criteria (2007). - The Global Clearinghouse

Introduction To Structured Financeinvolves an examination of details such as whoreceives the tender notices and who pays the purchaseprice to tendering bondholders.In some transactions, payment of purchase priceto bondholders is made by the tender agent ratherthan the trustee. If the LOC is written to the trusteeand the trustee is instructed by the indenture tomake draws on the LOC, the trustee must beinstructed do one of the following: (1) transfer themoney received from an LOC draw to the tenderagent, while allotting adequate time for the tenderagent to pay bondholders prior to the close of businesson the purchase date; or (2) direct the LOCbank to pay all proceeds of a tender draw directlyto the tender agent.Another acceptable option is to have the LOCbank authorize and the indenture instruct the tenderagent to make all tender draws directly, withoutinvolving the trustee. Remarketing proceeds mustalso be transferred from the remarketing agent tothe party paying purchase price in adequate timefor payment to be made to bondholders prior to theclose of business on the tender date. In the case ofmandatory tenders, undelivered bonds must bedeemed tendered.Purchase price reinstatementAny time all or a portion of tender price is paidfrom proceeds of a drawing on the LOC and theLOC coverage amount reduces upon honoring ofthe draw, the concept of purchase price reinstatementis an important factor. Bonds that are purchasedwith LOC money must not be released tothe new purchasers until the agent holding thesebonds has received written confirmation from theLOC bank that the LOC has been reinstated to itsfull amount of coverage for the bonds in question;otherwise, bondholders could be exposed to creditcliff risk by holding bonds that are not supportedby the LOC.Remarketing discountMost put bonds only allow the bonds to be remarketedat par. On some transactions, the remarketingcan be at a discounted price. To ensure full paymentto tendering bondholders, the discount mustbe limited to the amount of LOC coverage specificallyfor remarketing discounts.Expiration of the put optionThe short-term component of a dual rating on aput bond reflects the likelihood of full and timelypayment of purchase price upon a mandatory oroptional tender. As with principal and interest, thelikelihood of payment is equal to the likelihood ofthe bank’s honoring a draw for purchase price. Thebondholder is insulated from the performance ofthe issuer or the underlying obligor. Events ofdefault due to bankruptcy or technical default bythe issuer or underlying obligor should not lead tothe immediate expiration of the put option, whichwould be inconsistent with the short-term rating ofthe transaction.Optional RedemptionsCertain transactions are structured so that paymentof premium or principal associated with an optionalredemption is not covered by the LOC. For suchan event, the trustee shall not send out a notice ofredemption to the bondholders unless there are sufficientpreference-proof funds on deposit prior tothe giving of notice, or such notice will be conditionaland contain language to the effect that theredemption will be rescinded in the event there arenot sufficient preference-proof funds on hand priorto the scheduled redemption date.InvestmentsFunds held by the trustee, for which an investmentloss could lead to a lack of full and timely payment,must be restricted in their investment. This is mostcommon when the LOC is scheduled to fund earlierthan the payment date or when preference-prooffunds are being held as a payment source. Permittedinvestments may only be investments rated byStandard & Poor’s at least equal to the then-currentrating on the bonds. The investment must maturewithin 30 days or as needed for full and timely paymenton the bonds.DefeasanceIn a true legal defeasance, the bonds are deemedpaid, the trust estate is released, the trust indenture isdischarged, and, generally, the LOC is released. Thetrust indenture and LOC are replaced by an escrowof funds, which provide for the payment of any debtservice. Criteria for defeasance are designed toaddress both the credit quality of the escrow accountand the legal structure of the escrow. Except formunicipalities eligible to file for bankruptcy underChapter 9 of the Bankruptcy Code, defeasanceshould be accomplished with sufficient preferenceproof(as defined in the following sentence) funds topay for principal and interest until the bonds’ maturity,or earlier redemption. As in any other paymentstructure, preference-proof funds include:■ Funds provided under an LOC;■ Money accompanied by a preference opinion ofcounsel experienced in bankruptcy matters; or■ Funds “aged” for the proper preference period,depending on the details of the transaction.The preference-proof funds may be held in theform of either cash or direct obligations of the U.S.If U.S. government obligations are used, theyshould not be redeemable at the option of thewww.standardandpoors.com213