Preserving and increasing liquidity in the time of COVID-19

Spain - 
Gonzalo García-Fuertes, José Miguel Pinillos y Gaspar Atienza, socios del Departamento Mercantil de Garrigues.

Over the past weeks, Spanish companies and credit applicants from all industries, both essential and non-essential, have been implementing strategies in order to try, as far as they can in the circumstances, to ensure liquidity and minimize the impact of COVID-19 on their activity. This includes a number of measures in all areas of the business, which are in turn conditioned by the measures implemented by the Spanish government and other supra-national, national, autonomous community and local authorities. All these measures and every new piece of legislation can be tracked in our special 'Companies facing the coronavirus COVID-19', accessible here.

This article has been drawn up to help companies find out about, or simply recall, the various financing facilities or options that may be available to enable them to maintain, or even increase, the liquidity needed for the continuity of their businesses.

Unlike the 2008 crisis, where the lack of liquidity of credit institutions was the main hurdle faced by corporate financing, credit institutions now have sufficient liquidity  to meet the needs of independent contractors and companies, aided, inter alia, by the following decisions of the European Union:

  • Decision (EU) 2020/440 of the European Central Bank of 24 March 2020 on a Temporary Pandemic Emergency Purchase Programme (ECB 2020/17) (hereinafter the TPEPP). The TPEPP enables the European Central Bank to purchase, for up to seven hundred and fifty billion euros (€750,000,000,000), (a) marketable debt securities issued by public authorities, (b) corporate bonds, (c) covered bonds of credit institutions and (d) asset-backed securities, where such securities are eligible pursuant to the requirements imposed in other decisions of the European Central Bank.
  • Decision (EU) 2020/441 of the European Central Bank of 24 March 2020, amending Decision (EU) 2016/948 of the European Central Bank on the Implementation of the Corporate Sector Purchase Programme (ECB 2020/18) (hereinafter the expanded Asset Purchase Programme or APP), which expands the range of eligible assets, now admitting the purchase of commercial papers (promissory notes).

Companies therefore have the option, in the short term and over the coming weeks, to approach these credit institutions, with a view to attempting to maintain or increase their liquidity. Nonetheless, it would, in our opinion, be advisable to bear a number of things in mind when deciding to arrange new drawdowns on existing lines of credit, including the following:

  • Terms of the financing to be drawn down: although it might initially be decided to make an immediate drawdown on the revolving credit facility available to the company, an assessment should be made of whether such a drawdown is viable in the current circumstances, and very especially whether it could (i) cause a breach of representations and warranties, which often include representations related to the absence of “adverse material changes” and/or to the entity’s future solvency, thus giving give rise to liability; or (ii) mean that the drawdown itself leads to an event of default due to a failure to achieve debt ratios or the occurrence of any other ground for early maturity, thus making the cure worse than the disease. When applying now for a drawdown on an existing credit facility, debtors should analyze carefully whether they will be able to comply with the clauses of the financing in the future.
    In this connection it is important to distinguish an initial phase in which existing financing instruments could require specific waivers as a result of the most immediate effects of COVID-19 (waivers of ratios not achieved or of payment deferrals related to both interest and principal) and a second restructuring phase, which could begin as soon as the country’s economic activity is resumed and the medium and long term impact of COVID-19 becomes known. While waivers can be formalized more efficiently (letters) and quickly, restructuring will require new business plans and the execution of the related restructuring documents (more complex).
  • Who the lender is: it is now more important than ever before to know who forms part of the syndicate of lenders in a financing facility. Traditional credit institutions or habitual debt funds can be more flexible with respect to a temporary breach of financing terms, and more willing to acknowledge the specific local context, while other more aggressive financial investors or “vulture” funds may attempt to take advantage of the circumstances so as to obtain certain advantages over the debtor.
  • What exceptions to drawdowns of funds could be raised by creditors: financing transactions contain certain clauses which enable financial institutions, in certain scenarios (e.g., breach of market rules) not to meet drawdowns of financing, even if the debtor complies with all the terms. It is advisable to analyze such clauses and their implications on the liability of the parties when the drawdown is requested.
  • Changes in interest rates: when arranging new drawdowns and financing, the company will have to consider potential changes in the cost of the debt. In addition to potential short-term rate drops, we cannot dismiss the possibility, given the injections of capital into the markets by the European Central Bank and other bodies,  that reference rates may tend to rise due to the impact of inflation. Consideration should also be given to changes in the Euribor and its definition.
  • Messages to creditors and markets: at times like these, internal coordination is key, as are the potential implications, be they positive or negative (company ratings, market price of shares in listed companies), of the new drawdowns, although a priori the fact if the company ensuring liquidity in the short term could be a positive message. It is also essential to maintain a constructive dialogue with those providing the company with financing, informing them fairly frequently of the measures taken by each company with a view to mitigating, insofar as possible, the impact of COVID-19 on its activity.

Drawing down the whole amount in credit facilities may not be sufficient to obtain the liquidity needed to survive a prolonged crisis or exceptional situation. Companies should therefore manage liquidity in the most imaginative way possible, including by obtaining additional funds using financing methods that are nontraditional or more innovative, or a combination of both, depending on the company’s characteristics, and should also attempt to increase cash flows (by reducing expenses) as much as possible. The following thoughts and ideas may help companies in this situation:

  • Search for new credit facilities and new lenders:  although at present the credit markets for debtors, even those that are “investment grade”, are limited, while banks adjust their criteria and controls of the new financing to be granted, it is highly likely that, after the banks have done so, and given the profusion of tax and monetary incentives that are to be implemented in order to emerge from the crisis caused by COVID-19 as soon as possible (such as those indicated above by the European Central Bank), credit markets will open and banking institutions will again start lending. Companies should be prepared and ready for this scenario, both with their main banking suppliers and with new suppliers that may now have become more attractive.
  • Guarantee facilities and other public guarantees: Consider the existence of new guarantee facilities and public guarantees that secure new financing operations or the renewal of those already existing. Among the measures related to COVID-19, various national, supra-national, autonomous community and local regulators and agencies are announcing aid for the obtaining of funding, and new aid is likely to be approved in the coming months.
    Royal Decree-Law 8/2020, of 17 March 2020, approved an initial guarantee facility to be granted by the Spanish official credit institute (Instituto de Crédito Oficial or ICO), through financial institutions granting financing to companies of up to 20,000 million euros, subject to the regulations on State Aid of the European Union. The provision of these facilities, in addition to the general requirements envisaged in the ICO’s decision, will be subject to compliance with the usual internal procedures and requirements of each financial institution for the execution of financial transactions. In the following link we summarize a number of recommendations that can help independent contractors and companies to complete, vis-à-vis financial institutions, the speedy processing of this aid: Recommendations for accessing the financing facilities offered under Royal Decree-Law 8/2020.
  • Open capital markets: various “investment grade” issuers (both banking and corporate) from Spain and elsewhere in the European Union have managed to issue and place new issues on the international capital markets. And although issue prices may have taken a hit, there are placements with an incredible surplus demand.
    Furthermore, the TPEPP and APP of the European Central Bank, referred to above, will enable credit institutions to subscribe to certain corporate securities. In particular, the APP permits, as a novelty, the purchase of non-financial corporate promissory notes with sufficient credit quality, which could be very attractive to Spanish companies, since they are increasingly active on these international (mainly the Irish Stock Market) and national (AIAF and MARF) markets.
    On the downside are the high-yield issuers, a market accessible only under extremely limited circumstances (not to say at present practically closed). Many companies in this segment have had to announce the temporary discontinuation of their activity and, given the current situation, this clearly scares away investors, despite the high risk profile, who seek to weather the storm with other more secure investments.
    Nonetheless, these high-yield issuers may consider more aggressive solutions that would have been dismissed in the past, such as granting additional guarantees or guarantees beyond those granted in the past (which were limited to the pledge of shares and personal guarantees). Certain types of assets or contracts (concession rights, real estate assets, fleets of vehicles, commercial invoices, etc.) can serve as an additional guarantee for this type of product and thus obtain the additional financing. In any case, the complexity of the covenants under existing financing will have to be analyzed and these new guarantees will have to be structured correctly (so as to avoid unnecessary tax and legal expenses).
  • Transactions with assets (discounting and securitization): consideration should be given to discounting transactions in relation to invoices, receivables or other commercial assets, either through (i) discounting transactions with credit or factoring institutions directly, or (ii) structured transactions, creating discounting vehicles that place securities (bonds or promissory notes) backed by these assets on the capital markets, and also (iii) securitizations of assets, whose securities are also eligible for the European Central Bank programmes mentioned above (for example, credit institutions may begin to securitize loan portfolios secured with an ICO guarantee, where they attain sufficient volume). In recent weeks we noted an increase in the interest on the part of investment banks (mainly international) and other qualified investors in this type of transaction, with a very high level of liquidity.
  • Selling assets: it may be a good time to consider selling certain non-strategic assets of the company and renegotiating with financial institutions so that the gain on the sale will not be used to repay the debt, but rather for reinvestment in the company’s main activities, or alternatively, structuring sales or purchases through collection or payment in kind (shares, exchange of assets, etc.), which limits the outflow of cash and maximizes the value of the company and of its future activities.

Although it is extremely difficult to predict how the crisis will progress and how this will affect the credit and capital markets, it does appear that options will be more limited and, accordingly, it could be time for companies to consider more creative or aggressive financing solutions, whose implementation may entail a greater use of human resources, but which should nonetheless provide new financing alternatives for these turbulent times.