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					                                                                                             Co-published section: Covered bonds

    Coming to                                                                                          and advertising in combined Rule
                                                                                                       144A/Regulation S offerings. Securities
                                                                                                       sold in reliance on Section 3(a)(2) are not
                                                                                                       classed as restricted securities, while

    America                                                                                            securities sold in a private placement and
                                                                                                       resold in reliance on the Rule 144A safe
                                                                                                       harbour are. Many institutional investors
                                                                                                       are subject to limitations on the amount of
    Anna Pinedo and Jerry Marlatt of Morrison & Foerster                                               restricted securities that they may purchase.
                                                                                                       Resales of Rule 144A securities may only be
    describe the framework regulating foreign banks’ issuance                                          made to qualified institutional buyers,
    of covered bonds into the US                                                                       whereas 3(a)(2) securities may be sold to a
                                                                                                       broader universe of investors. Finally,

                 lthough the United States still       to the initial purchasers (the investment       restricted securities are not eligible to be
                 lacks a statute that would permit     banks that distribute the securities) in        included in bond indices and are therefore
                 US depository institutions to         reliance on Section 4(2) of the Securities      viewed as less liquid.
                 issue covered bonds, foreign          Act. The initial purchasers will immediately
    banks have found that US investors are             re-sell the covered bonds to institutional      Documentation
    interested in covered bonds. Foreign banks         investors that are qualified institutional      A European covered bond issuer with a
    have met investor demand by issuing covered        buyers in reliance on the Rule 144A safe        current prospectus (prepared in accordance
    bonds into the US relying on their domestic        harbour. At the same time, the covered          with UKLA or Luxembourg Stock Exchange
    covered bond frameworks. The cover pools           bonds also may be offered outside of the        standards) can access the US market
    supporting these foreign-issued covered            United States to non-US persons in reliance     relatively easily. The prospectus can be
    bonds have been comprised exclusively of           on Regulation S of the Securities Act.          supplemented with a few additional sections
    assets located outside the US.                        If a foreign bank has a branch or agency     for the US market. The additional sections
       When issuing covered bonds into the             in the US, it may be able to rely on the        to be added generally include: disclosure
    US, foreign issuers must comply with US            exemption from registration provided by         regarding US tax implications and Erisa
    securities laws, including the Securities Act.     Section 3(a)(2) of the Securities Act for       (Employee Retirement Income Security Act)
    This law requires that all securities issued       issuances of securities by banks. To qualify    implications; settlement information for
    and sold in the US be either registered or         for a Section 3(a)(2) offering, the covered     clearance of the covered bonds through the
    exempt from registration. To date, offerings       bonds must be either issued or guaranteed       Depository Trust Company (DTC); the
    of covered bonds by foreign banks have             by the US branch or agency. The US              identity of the US paying agent, information
    been structured as exempt offerings,               Securities and Exchange Commission              regarding any selling restrictions and transfer
    although, as discussed below, recent               (SEC) treats the US branch or agency of a       restrictions in the case of a Rule 144A
    developments may lead to a new approach.           foreign bank as a US branch or agency for       offering; and information regarding the role
                                                       purposes of Section 3(a)(2) if the foreign      of any US branch of a foreign bank in
    Registration exemption                             bank is a ‘national bank’ or a ‘banking         offerings as well as financial data regarding
    One approach for offering debt securities to       institution organized under the laws of any     such branch in the case of a Section 3(a)(2)
    US persons without pursuing a registered           state’ if the nature and extent of regulation   offering.
    public offering is to rely on the exemption        and supervision of such foreign bank is            It is relatively simple to amend an
    from registration provided by Rule 144A.           ‘substantially equivalent to that of            existing     European        covered     bond
    Upon issuance, the covered bonds of foreign        applicable federal or state chartered           programme to accommodate an offering in
    issuers are first offered in a private placement   domestic banks doing business in the same       the United States. There is no requirement
                                                       jurisdiction’. Additionally, if the covered     that the programme agreement be governed
                                                       bonds are guaranteed by such a branch or        by US law, so the existing agreement
                                                       agency, the guaranty or assurance must          remains largely unchanged. A few changes
                                                       cover the entire obligation. The guarantee      are necessary, however. First, a co-issuing
                                                       or assurance cannot be for a partial            agent must be appointed in the US under
     “It is relatively                                 repayment of the covered bonds.
                                                          Relying on the Section 3(a)(2)
                                                                                                       the existing agency agreement (or other
                                                                                                       agreement providing for the issuance of
     simple to amend an                                exemption has certain advantages                securities) to provide for issuance of, and
     existing European                                 compared to a Rule 144A offering. An            payment on, the bonds. This change is
                                                       offering made in reliance on Section            often accomplished by notice, without
     covered bond                                      3(a)(2) is generally not subject to the         amending the agency agreement. Second,
                                                       prohibition against general solicitation and    as required by the DTC, the global bonds
     programme to                                      advertising that applies to a Rule 144A         must be issued in the name of the DTC’s
                                                       offering. (The prohibition against general      nominee, Cede & Co, and physically held
     accommodate a US                                  solicitation and advertising has been           by the US issuing agent. This may require
                                                       relaxed by recently enacted legislation in      amending the agency agreement. The
     offering         ”                                the US; however, rulemaking is required to
                                                       effectuate this change. It is not clear
                                                                                                       programme agreement (or other agreement
                                                                                                       governing the offering and distribution of
                                                       whether the relaxation of the prohibition       the covered bonds) must be amended to
                                                       will permit the use of general solicitation     include representations, warranties and                                                                                                        IFLR/July/August 2012 87
Co-published section: Covered bonds

covenants typical for an offering to US              Author biographies
investors, selling restrictions, US-style
indemnification provisions for false or                                         Anna Pinedo
misleading statements or omissions                                              Morrison & Foerster
contained in the offering document, typical
market-out provisions, and a requirement                                        Anna Pinedo has concentrated her practice on securities and
that the issuer’s accountants deliver a                                         derivatives. She represents issuers, investment banks/financial
comfort letter and perform certain agreed                                       intermediaries, and investors in financing transactions,
upon procedures.                                                                including public offerings and private placements of equity and
   For a Section 3(a)(2) offering, steps must                                   debt securities, as well as structured notes and other structured
be taken to effect the issuance of the bonds                                    products. She works closely with financial institutions to create
through the US branch or agency of a                                            and structure innovative financing techniques, including new
foreign bank or for such branch or agency                                       securities distribution methodologies and financial products,
to guarantee the obligations evidenced by            and has particular financing expertise in certain industries, including working with
the covered bonds. In the case of an                 technology-based companies, telecommunications companies, healthcare companies,
issuance of the covered bonds by the US              financial institutions, Reits and consumer finance companies.
branch or agency of a non-US bank, the                   In the derivatives area, Pinedo counsels a number of large financial institutions acting
final terms and subscription agreement or            as dealers and participants in the commodities and derivatives markets. She advises on
other documents to be executed for the               structuring issues, as well as on regulatory issues, monetisation, and hedging techniques.
issuance of a new series of bonds must be            Her work focuses on foreign exchanges, equity and credit derivatives products, and struc-
executed by the bank “acting through the             tured derivatives transactions. She also has advised derivatives dealers regarding their
branch [agency]” and the global bonds                Internet sites and other Internet and electronic signature/delivery issues.
issued to the DTC should show the bank                   Pinedo regularly speaks at conferences and participates in panel discussions
“acting through the branch [agency]” as the          addressing securities law issues, as well as the securities issues arising in connection with
obligor. In the case of a guarantee by the           derivatives and other financial products.
branch, the bank “acting through the
branch [agency]” would execute the final                                             Jerry Marlatt
terms and the subscription agreement as                                              Morrison & Foerster
guarantor. While it may initially appear
strange that a branch office of a non-US                                             Jerry Marlatt specialises in corporate finance with a focus
bank would guarantee the obligations of                                              on structured capital markets. He represents issuers,
the non-US bank, the structure is                                                    underwriters and placement agents in covered bonds,
significant. The US branch or agency of a                                            surplus notes, structuring investment and specialised
non-US bank is regulated by a US regulator                                           operating vehicles, insolvency restructuring of such
and such branch or agency must often                                                 vehicles, securities repackagings and public offerings and
maintain separate capital in its local                                               private placements of asset-backed securities in domestic
jurisdiction. In the case of the branch or                                           and foreign capital markets. His representative transac-
agency’s failure, the US banking regulator           tions involve the first covered bond by a US financial institution, the first covered bond
will marshal the assets of the branch or             programme for a Canadian bank, surplus notes and common stock for a US monoline
agency in the jurisdiction and apply those           insurance company, eurobond offerings by US issuers and a variety of structured vehicles,
assets to repayment of claims against the            including CBOs, SIVs, CDOs, derivative product companies, ABCP conduits and credit-
branch or agency before releasing assets to          linked investments. He is co-author of ‘Considerations for Foreign Banks Financing’ (IFLR,
the home office of the branch or agency or           2012), a contributor to Covered Bonds Handbook (Practising Law Institute, 2010), and a
to insolvency proceedings in the home                charter member of the United States Covered Bonds Council.
jurisdiction of the bank.                                Marlatt was educated at the University of Southern California (BA, 1967) and
                                                     Southwestern University School of Law (JD, 1977). He is recommended as a leading
Due diligence                                        lawyer by Chambers Global 2012, Chambers USA 2012 and Legal 500 US 2012.
Several liability and diligence-related
documents are commonly delivered at
closing in connection with the issuance of          could not have known of such misstatement         offering by a regulated financial institution
debt securities into US markets. These              or omission. This is often referred to as the     with publicly available financial data should
documents include an auditor comfort                due diligence defence. The diligence process      not be a lengthy process. For a regulated
letter, a pool audit letter (agreed upon            will entail discussions with the issuer’s         financial institution, a great deal of
procedures letter), and a 10b-5 letter. In a        management, review of certain documents,          information about the institution is publicly
Rule 144A offering or a Section 3(a)(2)             including the issuer’s board minutes and          available. As part of the diligence process,
offering, an initial purchaser or dealer is         material contracts and other similar              there also will be various business and
subject to securities law liability in respect of   agreements and a review of the issuer’s           regulatory diligence conference calls and
losses if there are material misstatements or       mortgage business policies and procedures.        discussions with the issuer’s accountants,
omissions contained in disclosure                     Some non-US issuers may find this               counsel and other advisors. Naturally,
documents for the offering. The initial             inquiry intrusive, but the diligence process      conducting diligence for the very first
purchaser or dealer may, however, limit its         can be handled with due consideration for         offering will be more time-consuming than
liability if it can establish that it did not       the confidentiality of sensitive information.     for subsequent offerings. Subsequent
know and, in the exercise of reasonable care,       Furthermore, the review relating to a debt        offerings require only a review of new

88 IFLR/July/August 2012                                                                                                      
Co-published section: Covered bonds

agreements and new board minutes. It
should also be noted that diligence
conducted, for example, for a covered bond
programme can also serve as the basis for
diligence for other securities offerings by the
                                                    “There are a number of significant
same issuer, such as offerings pursuant to a        advantages associated with SEC-registered
medium-term note programme or a 3(a)(2)
banknote programme. Accordingly, once
initial diligence is completed, the issuer may
                                                    covered bonds                  ”
achieve future efficiencies if the issuer and
the dealers work with the same counsel on
other offerings. The initial purchaser/dealer      the issuing entity must have been reporting       reporting on Form 10-D within 15 days of
also will request that the issuer’s counsel and    to the SEC for at least one year. If the issuer   a distribution date of distribution amounts,
its own counsel deliver Rule 10b-5 or              does not qualify for Form F-3, it must            application of collections on the assets and
negative assurance letters at closing.             register its covered bonds on Form F-1.           performance of the cover pool and material
                                                      The disclosure required in the prospectus      event reporting on Form 8-K.
Registered covered bonds                           for an issuing bank will include full                As noted above, if a foreign issuer of
A foreign issuer also may want to consider         financial statements, presented in standard       covered bonds does not qualify for use of
registering an issuance of covered bonds           IFRS or reconciled to US GAAP.                    Form F-3 because it has not been reporting
with the SEC, so that the issuer can offer the     Disclosure regarding the bank should be           to the SEC for at least one year, the issuer
bonds in a public offering. Registering            drafted in accordance with SEC Industry           must use Form F-1, which requires the
covered       bonds       entails      different   Guide 3, which is the disclosure guide            filing of a registration statement for each
considerations for each jurisdiction and in        applicable to banks. Periodic reporting will      offering. However, only one offering is
some cases for each issuer within a                include annual filings on Form 20-F,              required to begin the reporting process. If
jurisdiction. There are different issuance         interim reporting on Form 6-K and                 the issuer wishes to come to market
structures for covered bonds in different          material event reporting on Form 8-K.             frequently during the year and finds the
jurisdictions and sometimes more than one             Based on the recent no action letter           filing and approval process for Form F-1
structure in the same jurisdictions.               granted to Royal Bank of Canada (available        interferes with market timing for an
Moreover, individual issuers may have              May 18 2012), it is likely that SEC staff         offering, the issuer may wish to consider
existing relationships with the SEC, may be        will expect disclosure about the cover pool       using a Rule 144A private placement or a
subject to special accounting requirements,        assets consistent with the requirements of        Section 3(a)(2) offering to enable quick
be subject to certain prohibitions on              Regulation AB that are applicable to master       market entry during the year when it is
disclosure or otherwise present unique facts.      trust structures, such as credit card master      building its reporting history. It is also
   Foreign issuers would register securities       trusts or UK mortgage master trust for            possible to offer Rule 144A securities with
with the SEC on Form F-1 for a one-time            residential mortgage-backed security              registration rights to be followed by the
offering or on Form F-3 for a shelf offering.      issuance. Prospectus disclosure will include      filing of a Form F-1 to register those
A shelf offering is usually desirable because it   static pool disclosure and statistical            securities. At the end of the one-year
permits the issuer to register an amount of        disclosure of the expected cover pool at the      reporting period, a Form F-3 can be filed.
securities to be sold over three years and to      time of issuance, including delinquency              Of course, the decision to register a
come to market multiple times over the             and loss information. Static pool                 covered bond offering will be easier for a
three-year period at times of the issuer’s         information is stratified disclosure of           foreign issuer that is already a US reporting
choosing. In order to qualify for use of Form      mortgage loans in the cover pool based on         entity. There are a number of significant
F-3 for a registration statement, however,         the year of origination of the loans.             advantages associated with SEC-registered
                                                   Periodic reporting of cover pool assets will      covered bonds. An issuer would be able to
                                                   include an annual filing on Form 10-K             offer securities to a broader array of
                                                   consistent with what an asset-backed              investors, and the securities would be freely
                                                   security issuer would report (including an        transferable, not restricted securities. The

“The diligence                                     annual statement of the servicer of the
                                                   mortgage loans regarding compliance with
                                                                                                     covered bonds would therefore be eligible
                                                                                                     for inclusion in bond indices. As a result,
process can be                                     applicable servicing criteria, an attestation
                                                   by an accounting firm on the servicer’s
                                                                                                     the offering may attract interest from funds
                                                                                                     that track bond indices. Although
handled with due                                   statement, a statement from an authorised         registered covered bonds are a relatively
                                                   officer of the servicer regarding his review      new alternative available to foreign issuers,
consideration for the                              of the servicer’s activities and its              foreign issuers should consider carefully
                                                   performance under the servicing agreement         their various issuance options when
confidentiality                                    during the period and that based on such          accessing the US market and in weighing
                                                   review and to the best of his knowledge the       the various benefits of each approach take
of sensitive                                       servicer has fulfilled all of its obligations     into account all of their funding needs. As
                                                   under the servicing agreement; for a              we note above, documentation and
information               ”                        covered bond issuer using a single-tier
                                                   issuance structure, such as a Pfandbrief
                                                                                                     diligence for one issuance programme may
                                                                                                     well be leveraged and used in connection
                                                   issuer, the SEC may request different             with other issuance platforms and result in
                                                   statements and disclosure), interim               significant efficiencies for the issuer.

90 IFLR/July/August 2012                                                                                                   

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