Covenant to pay

The Law and Lore of Repackaging →Go uptown Covenant to pay in a Nutshell™ The Issuer must unconditionally pay principal when it becomes due in the Contractual Currency, with interest, as set out in the Conditions. The Issuer can satisfy that obligation by payment to the Issuing and Paying Agent, provided the Issuing and Paying Agent then pays Noteholders. The Trustee holds this covenant on trust for the Noteholders. Repack Anatomy: Hedging exemption | Covenant to pay | Quoted Eurobond exemption | Pre-enforcement | The curious structure of an MTNIndex: Click ᐅ to expand: Repackaging Tell me more Sign up for our newsletter — or just get in touch: for ½ a weekly 🍺 you get to consult JC. Ask about it here.

You might wonder what on Earth this is all about, especially if you encounter it cast with the wrought iron prose that the school matron beats into Linklaters trainees with her rolling pin during their Debt Capital Markets seat.

So, in brief:

What the covenant to pay is all about

The note is a unilateral, bearer instrument. Holders for the time being appoint a trustee to represent them.

The trustee does not hold the note, so otherwise would have no rights under it. This covenant gives the trustee legal standing to sue/act for noteholders.

Also, the issuer makes its payments to noteholders via a paying agent (normally, a bank). There is an odd interregnum between the issuer paying its agent, and the agent paying the noteholders, which it does through clearing systems. There are fun recent cases about this — in the context of a loan agency arrangement, about what happens if an agent pays money away before the debtor pays it — especially when it then turns out that the debtor can’t pay it.

The issuer’s covenant is discharged by paying the principal it owes to its agent. At that point it has done everything it can do.

But if the agent then fails before paying noteholders — it can happen — the issuer should not be discharged from its obligation to the noteholders. One cannot escape liability to a principal by giving money to your own agent.

At this point, the noteholders have a claim for default against the issuer, and the issuer has a claim against its (insolvent) paying agent.

The trustee holds the covenant on trust for noteholders (and itself to the extent of its own fees) to defend against trustee running off with the money: under the trust noteholders can trace their claims in the trustee’s hands if the trustee does a bolter.

See also

• Signal versus noise
• Stupid banker cases