PLC Global Finance update for June 2010: Australia

Practical Law UK Articles 8-502-6114 (Approx. 6 pages)

PLC Global Finance update for June 2010: Australia

by Minter Ellison

Capital markets

New regulatory framework introduced for the issue of corporate bonds to retail

Richard Mann and Nigel Clark

Background

In our May 2010 update Australian Financial Centre Forum and Report, we foreshadowed a proposed simplification of the regulatory requirements imposed on corporate issuers of bonds to retail investors. The objective of this initiative is to create a deeper and more diversified Australian bond market, broadening the funding base for large Australian corporate groups.

On 11 May 2010, the Australian Investments and Securities Commission (ASIC) issued Class Order [CO 10/321] 'Offers of Vanilla Bonds' together with Regulatory Guide 213 (Facilitating Debt Raising) relating to the Class Order. This Class Order provides relief from certain prospectus requirements, so that offers of quoted Vanilla Bonds can be made under a simplified prospectus regime.

Previous regulatory framework and its limitations

In offering corporate bonds for issue, listed entities need to comply with each of the following:

The fundraising provisions in Ch 6D of the Corporations Act 2001 (Corporations Act).
The requirements relating to offers of debentures in Ch 2L of the Corporations Act.
The ASX Listing Rules.

Offers of corporate bonds to retail investors generally require full prospectus disclosure. In contrast, a listed issuer generally only requires a transaction-specific prospectus for offers of quoted shares, options over quoted shares and securities that are convertible into quoted shares (section 713 and Class Order [CO 00/195] Offer of convertible securities under section 713).

The new Class Order relief aims to reduce the time and expense associated with compliance with this regime by allowing certain offers of Vanilla Bonds to be made by high quality issuers under a simplified prospectus with a similar level of content to a transaction-specific prospectus.

What are 'vanilla bonds'?

To summarise, vanilla Bonds must have all the following characteristics to be eligible for the prospectus relief. They must:

Be unsubordinated and rank at least equally with unsecured creditors.
Have a simple interest structure (a fixed rate or a floating rate which compromises a variable reference rate plus a fixed margin).
Be all issued at the same price.
Be denominated in AUD.
Have a 10 year maximum term.
Contain limited early redemption events.
Not be convertible into other securities.

The minimum issue is AUD50 million. There is no credit rating requirement. The bonds can be secured or unsecured.

The vanilla bonds prospectus

Provided certain content conditions are met, the relief allows listed entities to offer vanilla bonds using either:

A simplified prospectus (vanilla bonds prospectus).
A two-part prospectus, comprising a base prospectus that may be used for several different offers and a second part prospectus that relates to a particular vanilla bonds offer.

The term of the base prospectus can be up to two years.

Key financial disclosures required in a vanilla bonds prospectus are:

Details of any prior ranking debt (or debt proposed to rank in priority in the future).
Whether the issuer is or has been in material breach of loan covenants or debt obligations.
The key financial metrics of the issuer, which are the following ratios:
- gearing;
- interest cover; and
- working capital.

Conditions applying to the Issuer

A clean compliance history is a necessity for the issuer. The issuer must be listed and:

Must be entitled to use a transaction specific prospectus for its existing securities.
Must not have been suspended from trading for more than five days in this previous 12 month.
Its most recent annual financial report and subsequent half-year report (each lodged with ASIC) must be unmodified.
Must have no existing ASIC determinations in force relating to it.

Comment

The extent to which Australian corporate groups may use the prospectus relief in Class Order [CO 10/321] is not yet evident and consequently the success or failure of the relief in deepening the bond market cannot yet be determined.

However, participants in the consultation process leading up to the Class Order and Regulatory Guide agreed that this relief will be of benefit to each of the main stakeholders. These are:

Prospective issuers (by making implementation of a funding option easier).
Retail investors (by providing them with a new generic and theoretically easily understood bond investment alternative).
ASIC, as the main regulator (by maintaining satisfactory investor protection principles).

Tax

Australia's resource super profits tax: implications for financiers

Leigh De Jong and Peter Capodistrias

The Australian Government has announced that it proposes to introduce a new resource super profits tax (RSPT) on all profitable resource projects in Australia.

How is the RSPT proposed to work?

Resources subject to the RSPT will include petroleum (crude oil, condensate and natural gas), uranium, bulk commodities (black coal, iron ore), base metals (gold, silver, copper, lead, nickel, tin, zinc and bauxite), diamonds, and precious stones and mineral sands.

The applicable tax rate is 40% of RSPT net profit. The 'super' profit is to be calculated as follows:

RSPT calculation
Assessable revenue (the market value of the resource at the point of production, based on actual sale or arm's-length sale price at this point in production) less deductible expenditure incurred up to the point of production (including depreciation) less RSPT allowance (discussed below) less prior year project losses = RSPT project profit or loss	RSPT operating balance x RSPT rate (proposed to be set at 10 year Government bond rate (approximately 6%))
+/- losses transferred = RSPT net profit or loss	Project losses can be transferred.
RSPT liability = 40% of RSPT net profit	If net loss, loss is carried forward.
Closing RSPT capital account = undepreciated value of tangible capital plus unutilised losses

The RSPT will commence from 1 July 2012 and will be followed shortly by a reduction in the rate of company tax from 30% to 29% in 2013/2014 and a further reduction to 28% after 2014.

Losses are carried forward, but are not immediately refunded, and can be transferred. The Government will guarantee a tax credit for unused losses even if the entity goes out of business (effectively underwriting 40% of capital investment on unsuccessful projects).

The RSPT will allow deductions for the cost of extracting resources, but will not allow deductions for:

Interest and financing costs, including the costs of issuing shares, repayment of equity, payment of dividends or hedging costs.
Costs of acquiring an interest in an existing exploration permit, retention lease, development licence, production licence, pipeline licence or access authority.
Payments to acquire interest in projects subject to the RSPT.
Payments of income tax or GST.

A refundable credit will be given for State and Territory royalties paid.

Resource exploration rebate

A new resource exploration rebate will allow refundable income tax offset at the prevailing company tax rate for exploration expenditure incurred on or after 1 July 2011.

Existing projects and transition

The RSPT will apply to existing projects. However, transitional issues will be difficult including recognising the 'fair value' of project costs for existing projects. Transitional assistance is likely to be provided by recognising a starting 'capital expenditure' base, to recognise investment made at the project level at the commencement of the RSPT. How this is to be calculated is yet to be determined. Previous investment (the RSPT starting base) can be depreciated at accelerated rates over five years, providing a 'soft-start' that reduces RSPT liabilities in the early years of the scheme.

Implications for financiers

Industry is not supporting many aspects of the proposed tax and the Government is undertaking a consultation on aspects of the tax. It is highly likely that aspects of the tax will change as a result of this process. However, on the basis of the tax as currently proposed, matters for financiers to consider include:

Financial models and credit assumptions will need to be adjusted for the effect of the new scheme (on existing and new projects).
The definition of key ratios (such as debt service coverage, interest coverage and leverage) will not change. However:
- the limits of debt service cover ratios will be affected because there will be less cash available for debt service as a consequence of more tax being taken out of a profitable project – the timing of cash flows may also change (see below); and
- more headroom in other ratio limits may be required.
Typically 'change in law' provisions in financing documents relate to yield protection and do not allow the financier to revisit financial covenants as a result of a change in tax law. Financiers may want to consider including a 'review event' on implementation of the new scheme.
Interest and financing costs will not be deductible for RSPT, but will remain deductible for income tax purposes. This will impact on project cash flows and potentially could lead to a situation where a project is still making a loss for income tax purposes (for example, if financing costs are greater than the RSPT allowance rate (currently around 6%) but RSPT is payable because of not being able to deduct financing costs in calculating its RSPT liability.
The impact of the ability to transfer RSPT losses between projects: losses may only be transferred within the entity carrying out the relevant project or a wholly owned corporate group, but it is not clear whether the loss transfer provisions will be automatic or optional. If loss transfer provisions are optional, financiers may want to consider covenants restricting loss transfers.
Under the refund of loss provisions the Government effectively credit enhances a risky project, although it is difficult to see why banks would fund a marginal project in reliance on the refund.
It is unclear whether the proposed refund for mining royalties will be a paid credit or a carry-forward tax credit against RSPT payable. This will impact on timing of project cash flows.
Structural subordination: where financing a corporate group, if project lenders take security over a project vehicle within the group, those lenders will have the benefit of security over refunds of losses for unsuccessful projects and unutilised losses which have not been transferred.
When financing a project:
- RSPT is calculated separately for each project interest, which is important for joint ventures where joint venturers/partners contribute different capital to a project. Financiers will need to consider the tax situation of each separately (particularly relevant where a financier is lending to a project sponsor, rather than a project vehicle).
- If loss transfer provisions operate automatically, the project vehicle will not have the benefit of losses in the early stage of the project to offset against later project income. If loss transfer provisions are optional, financiers may want to restrict loss transfers to retain losses within the project vehicle.
- Consider a requirement that refunds or losses on unsuccessful or mining royalties paid be paid directly into the project account or in repayment/prepayment of project debt.
- Residual value for RSPT purposes will not be re-valued on a sale. This has implications where a financier funds the purchaser of project assets. That is, the financier will need to look back to original tax value when calculating the RSPT liability (even though the borrower may have paid a higher price to acquire the project).

PLC Global Finance update for June 2010: Australia | Practical Law