The financing flexibility of P-Caps – Securities

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Companies use contingent capital facilities to supplement existing capital resources, improve funding diversification and enhance financial flexibility through immediate access to committed capital. Contingent capital can take many forms, revolving credit facilities being an obvious example. A lesser-known contingent capital product in the capital markets, pre-funded fiduciary securities (“P-Caps”), have some similar characteristics to a revolving credit facility, but can have a much longer maturity with less counterparty risk. In this article, we provide a brief introduction to P-Caps, including potential benefits and considerations.

The structure of P-Caps

Typically, in a P-Caps transaction, the company creates a new Delaware statutory trust. This trust issues trust securities to qualified institutional buyers pursuant to a Rule 144A offering. The proceeds of the issue are invested by the Trust in a portfolio of principal and interest tranches of U.S. Treasury securities (“Eligible Assets”) which, together with the facility fees described below, equal the expected payments on the securities of the trust. The basic structure is shown below:

Along with the issuance of the trust securities, the trust enters into a facility agreement with the company. The Facility Agreement provides the Company with an issue right (the “Company Issue Right”) which permits the Company, at its option, to issue Senior Notes to the Trust and require the trust to purchase such senior notes with an equivalent amount of the Qualifying Principal Assets. The company is required to fully exercise the company’s issue right upon certain automatic or mandatory triggers, including the event of bankruptcy, certain payment defaults, or if the company’s consolidated net worth falls below a threshold. In exchange for the company’s right to issue, the company pays the trust a service fee. Facility fees plus income from qualifying assets are equal to the coupon on the trust securities.

Trust securities are generally rated in accordance with the rating of the company’s senior notes and are designed to mimic an investment in such notes, providing investors with a risk profile equivalent to a direct investment in the company’s senior debt. society. If the company wishes to exercise the company’s right of issue and receive the eligible assets, it sends a notice to the trust. Assuming a full exercise of the Company’s right to issue, the only assets of the Trust will be the Company’s Senior Notes. Most P-Caps facilities allow the company to exercise part of the company’s right to issue, in which case the company would issue a portion of the contractually agreed maximum aggregate amount of senior notes to the benefit of the trust and receive the equivalent amount of eligible assets. The assets of the trust would then include the remaining qualifying assets and the senior notes that have been issued. The facility fees on the unissued senior notes, the coupon on the senior notes and the income from the remaining qualifying assets would provide sufficient funds to pay the coupon on the securities of the trust.

Structuring options

The basic structure of P-Caps described above can be modified to provide the business with additional flexibility and options. Structuring options in existing P-Caps installations have included the following features:

  • Refreshment. Recent P-Caps structures have allowed the company to tap into the facility, repay the facility, and then re-borrow as often as it wishes over the life of the facility. This is made possible by the inclusion of a redemption right which allows the company to redeem all or part of the senior notes then held by the trust, in exchange for eligible assets that the company holds or buys in the market. .

  • Assignability. Another amendment allows the company to instruct the trust to grant the company’s right to issue to one or more assignees of the company, usually direct or indirect subsidiaries of the company. Upon exercise of the Company’s right of issue, the Company would issue its Senior Notes to the benefit of the Trust, but the Trust would return the Qualifying Assets to the transferee. This feature can be useful if one wishes to transfer capital into a regulated subsidiary (for example, an insurance company or a regulated bank) prior to filing for bankruptcy by an unregulated holding company.

  • Pledge. In other P-Caps transactions, primarily in the non-insurance area, eligible assets have been pledged to lenders to fully secure the company’s letter of credit facility. The collateral would be enforceable by the lenders and the company’s right of issue would be triggered upon the occurrence of an event of default under the letter of credit agreement.


P-Caps have several key advantages over other sources of capital:

  • Neutral leverage. Until the Senior Notes are issued for the benefit of the Trust, the P-Caps are not reflected on the Company’s balance sheet and are not included in the Company’s financial leverage. The off-balance sheet nature of the P-Caps structure allows the company to proactively prepare for contingencies, while ensuring that the company does not announce an artificially inflated level of leverage or violate any financial covenants related to the leverage before issue.

  • Positive evaluation. Rating agencies generally consider P-Caps to be credit positive because they improve a company’s access to liquidity, especially in times of crisis. Also, trust securities are generally rated in accordance with the company’s senior notes because investors are actually investing in the company’s senior credit.

  • Waiting credit. The immediate liquidity offered by P-Caps provides a reliable source of funding during a stress event. P-Caps are a form of reserve credit that is available prior to maturity regardless of market windows, general economic conditions, or issuer-specific events. This is important, as other sources of capital may be unavailable or prohibitively expensive in the event of a liquidity shortage. For example, unlike a revolving credit facility, there is no counterparty risk where the business wishes to draw on the facility because the qualifying assets are in the possession of the trust and the trust is contractually obligated to provide eligible assets in exchange for the company’s senior ratings.

  • Tax. The Company will receive a net tax deduction equal to the amount of Facility Fees payable by the Company to the Trust while the Facility is not drawn. The tax deduction offsets set-up costs, which helps reduce the overall cost of P-Caps.

  • For a long time. The P-Caps issues concerned maturities of 10, 20 and 30 years. These are significantly longer maturities than the typical revolving credit facility.

  • Covenant-Lite. The underlying Trust Securities and Senior Notes have few, if any, covenants. To the extent that these facilities include covenants, they generally mirror the covenants of the Company’s other senior indebtedness.

  • Use of the product. If the Contingent Capital Facility is drawn, the Company receives the Qualifying Assets, which should be liquid securities, and has no restrictions on its use of the Qualifying Assets. Eligible assets can be held in the form of US Treasury strips or converted into cash for immediate use.


The benefits of P-Caps should be balanced against the following considerations:

  • Cost. The Company is obligated to pay the facility fee even if the facility is undrawn, resulting in ongoing costs greater than the undrawn commitment fee of the typical revolving credit facility. There are also additional transaction costs associated with monetizing eligible assets when the company’s right to issue is triggered and sourcing eligible assets to discount the facility if it is drawn down and repaid.

  • Fixed maturity. If the Company’s right of issue is exercised and the Senior Notes are issued to the benefit of the Trust, the Senior Notes will be required to be redeemed or refinanced at the due date regardless of when the the company’s right to issue is exercised, which subjects the company to a possible refinancing risk based on market conditions.

  • Company credit risk. As noted above, the facility automatically or compulsorily triggers after the company goes bankrupt or defaults, or if the company’s net worth falls below a specified threshold. While this automatic issuance of senior notes would immediately increase the company’s liquidity, it would also increase its outstanding debt, which would be treated past bet with the company’s other existing senior debt.

  • P-Cap price. The coupon the company pays on the P-Caps is typically slightly higher than the interest rate paid on the company’s revolving credit facility, reflecting the structured nature of the product, the longer term to maturity and the price. typical of the company’s senior bonds.

Final Thoughts

There have been a limited number of P-Caps transactions over the past 10-15 years and these transactions have been executed primarily by insurance companies. However, more recently, companies in the energy sector have taken advantage of the structure, and it is fair to say that the structure is independent of the industry. P-Caps are a reliable and preventative tool that a company can use to prepare for unforeseen stress events, closed market windows, opportunistic M&A financings or other liquidity needs.

P-Caps can be an efficient and additional source of cash and capital that provides a company with long-term flexibility and, for the right company, is a great addition to the company’s capital structure. We would be happy to discuss the structure and the associated costs and benefits with any interested issuer.

The content of this article is intended to provide a general guide on the subject. Specialist advice should be sought regarding your particular situation.

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