NATIONAL ASSOCIATION OF BOND LAWYERS
Voice from the Past
Chapter 19
One of the exercises we used to perform from time to time
was the amendment of
resolutions securing outstanding revenue bond issues. Almost
every time the purpose was to
permit the issuance of additional bonds on a parity with the
outstanding issue when the issuer
could not satisfy an existing parity test. The original
resolution typically had a provision for
amending any section with the consent of the holders of
three-quarters, or, later, two-thirds of
the outstanding bonds, provided that certain actions against a
minority of the bondholders
were prohibited. Thus the holders of bonds numbered 250 to 1000
could not consent to an
amendment preventing the holders of bonds numbered 1 to 249 from
receiving interest or
principal when due. Though modern book entry bonds are not
numbered, the principle
remains the same.
The procedure was initiated by a bond dealer who would ask us to
prepare the
documents for the new bond issue as well as the amendatory
proceedings. Early on, the
original resolutions called for approval at a meeting of the
bondholders, but the meeting
requirement was dropped after a while. I suppose that the
drafters of the documents had
practiced in the Depression when many issuers were unable to pay
their bonds, and meetings
of bondholders were appropriate measures to determine how to make
the best of a bad
situation. This was no longer the case after World War II, but
changes in boilerplate come
slowly.
I remember one such meeting that took place in my office, which
was then pretty
small. John Shields, the head of Barcus, Kindred and Company,
turned up about 10:00 in the
morning and displayed the proxies he had received from three or
four insurance companies,
and these were sufficient to consent to the proposed amendment.
Exercising those proxies,
John elected himself chairman and me secretary of the meeting.
We then proceeded to verify
the fact that we already knew: that the proxies were sufficient
to carry a vote in favor of the
proposed amendment. This fact I duly noted in the minutes of the
meeting that I, as secretary,
was taking. When the meeting was over, the minutes typed up,
and John and I signed them,
there was still time for us both to go back to work before lunch.
In most of the amendments, it was sufficient that the necessary
consents be filed with
the city clerk and no meeting was required. Typically, at the
meeting when the governing
body determined that the consents had been obtained, the old
resolution was duly amended,
and the new bond resolution was adopted. I was a little nervous
about possible sales of the
underlying old bonds by the holders between the time they
consented and the time the
resolution was adopted. Sometimes we required stamping the bonds,
but this was not
welcomed by the bondholders, and there was no feasible way to
make sure that non-
consenting bondholders either stamped their bonds or knew of the
amendment. As the bonds
were unregistered and passed by delivery, we may have taken the
position that disclosure on
the face of the bond that the resolution authorizing it could be
amended put subsequent
holders on notice of the fact that it might have been amended
before they took possession.
Cumbersome though the amendatory process was, it was better for
an issuer than the
alternative, which was to issue subordinate lien bonds if the old
bonds were not immediately
callable for redemption and refunding. Investors were not at all
happy to buy them, so that
the principal market for these obligations was the holders of the
first lien bonds. Knowing
that, such holders could pretty much set interest rates
independent of the market.
In time, I learned that the insurance companies or other
investors that consented to
these amendments generally were the ones who bought the new
bonds. The underwriters
knew who the old bondholders were because they had sold them the
prior issue. This was
well and good when the bondholders were a few insurance
companies, but if the bonds were
spread over scores or hundreds of smaller holders, tracking them
down was an expensive
chore. Of course, the holders of the old bonds insisted on an
opportunity to buy the new
bonds at a price with which they were well satisfied.
The practice of amending resolutions authorizing outstanding
bonds stopped all of a
sudden. Not because of a lesser need to issue revenue bonds that
didn't meet a parity test,
but because of the advent of advance refunding. When the
economic advantages of advance
refunding (prior to rules against arbitrage) became known,
failing to refund the old bonds
made no sense. The old resolutions could stay on the books, and
investors cared not that the
new bonds bore junior liens because the first lien bonds were
defeased. Until the resolutions
authorizing the old bonds included appropriate defeasance
clauses, our opinions on advance
refunding revenue bonds referred to the old bonds, and stated
that we had examined evidence
that government bonds sufficient, with interest, to pay principal
of and interest on the old
bonds when due, had been deposited in escrow for that purpose.
By the time that the
arbitrage rules made it difficult for an issuer to make much
money from an advance
refunding, the practice of amending outstanding bond resolutions
had been forgotten, and
advance refunding became the standard procedure for dealing with
the problem of parity tests
that could not be met. Even without arbitrage benefits, issuers
and underwriters benefit: the
lack of any need for consent from the holders of the outstanding
bonds gives issuers a much
larger potential market for the new bonds, and gives dealers many
more bonds to sell.
Manly W. Mumford