Eighth Circuit Holds Failure to File Exchange Act Reports Not a Breach of Indenture Reporting Covenant or Trust Indenture Act
December 2, 2008
In the last several years, there have been a number of situations where issuers have failed to file reports with the SEC on a timely basis and bondholders alleged that such failure violated certain provisions of the Trust Indenture Act (“TIA”), that are incorporated into all public debt indentures. In the first case that was litigated on such matters, Bank of New York v. Bearingpoint, Inc. (“BearingPoint”), 13 Misc.3d 1209(A), 824 N.Y.S.2d 752 (Sup. Ct. N.Y.County 2006), a New York state court held that the TIA required timely filing of SEC reports. Since then, a number of federal courts have disagreed and held that the TIA does not impose an independent obligation to make timely filings of SEC reports. Yesterday, the U.S. Court of Appeals for the Eighth Circuit filed an opinion, in United Health Group Inc. v. Wilmington Trust Co., affirming a district court decision that an issuer’s delinquency in filing its Exchange Act reports with the SEC was not a breach of its indenture reporting covenant or Section 314(a) of the TIA. The Eighth Circuit is the first appellate level court that has addressed this question, and this case is therefore an important contribution to a growing body of case law that rejects the BearingPoint court’s interpretation of reporting covenants and Section 314(a) of the TIA.
The BearingPoint Case
Many indentures contain some form of standard language that generally provides that the company shall file with the trustee, within a certain number of days after it files such information with the SEC, copies of the reports which it is required to file with the SEC pursuant to Section 13 or 15(d) of the Exchange Act. Many indentures also expressly require compliance with Section 314(a) of the TIA.
Section 314(a) of the TIA provides that an issuer must “file with the indenture trustee copies of the annual reports and of the information, documents, and other reports (or copies of such portion of any of the foregoing as the Commission may by rules and regulations prescribe), which such obligor is required to file with the Commission pursuant to Section 13 or Section 15(d) of the Securities Exchange Act of 1934.”
In the BearingPoint case, a New York trial court ruled that the company’s failure to file Exchange Act reports with the indenture trustee when such reports were due to be filed with the SEC constituted an event of default under the indenture. The court reached this conclusion notwithstanding the fact that the covenant in the indenture called for reports to be filed with the trustee by the company “15 days after it files such annual and quarterly reports, information, documents and other reports with the SEC” and that Section 314(a) of the TIA does not expressly specify a time period during which a company must file SEC required reports.
The BearingPoint decision generated significant concern because Section 314(a) of the TIA is deemed included in every indenture qualified under the TIA, by operation of Section 318(c), and cannot be contractually eliminated. Because the BearingPoint court was the first to interpret Section 314 of the TIA, many were worried that other courts would interpret Section 314(a) in a similar manner leading issuers that did not file their SEC reports on time to be in default under their indentures. This concern was heightened by the fact that, at the time of the BearingPoint decision in September 2006, many issuers were restating their financial statements for stock option backdating reasons and were therefore more likely to be delinquent in their Exchange Act reports.
Subsequent Trial Court Decisions
Subsequent to the BearingPoint decision, several trial courts have issued opinions contrary to BearingPoint and have criticized the BearingPoint decision. These courts, like the BearingPoint court, however, are trial courts and therefore not binding on other courts.
The United Health Decision
In the United Health case, the trustee for certain of United Health’s notes asserted that by failing to file its Exchange Act reports with the SEC when due, United Health had violated the reporting covenant in the notes’ indenture, the TIA and an implied covenant of good faith and fair dealing. In addressing the reporting covenant and TIA claims, the Eighth Circuit noted that the reasoning in BearingPoint is “unpersuasive.” The reporting covenant in United Health’s indenture reads as follows:
The Court held that this merely imposes an obligation to simply forward to the trustee copies of the required SEC reports within 15 days of actual filing. The Court also concluded that that Section 314(a) of the TIA imposes “no new obligations or duties” and “no time constraints whatsoever."
The court also found that United Health’s delinquent reporting was not a breach of an implied covenant of fair dealing because United Health “took reasonable and necessary steps to provide its noteholders as much information as possible and as accurately as possible” and continued to make all required payments on the notes. In particular, the court noted that along with its notice of late filing of its Form 10-Q, United Health submitted estimates of its financial position that differed by less than 1% from the financial information in the Form 10-Q it ultimately filed several months later. It also provided Form 8-K filings with updates on the results of its backdating investigation throughout the period of its delinquency.
As we indicated above, the Eighth Circuit’s decision in the United Health case is a positive development for issuers that may be delinquent in their SEC reports due to restatements or other reasons. It is worth noting, however, that the case is not binding on courts outside the Eighth Circuit. In addition, as was the case in trial court decisions that have interpreted reporting covenants and Section 314(a) of the TIA to impose no independent obligation to file timely SEC reports, the court found it important that United Health provided financial information to investors throughout the delinquency period. While the court did not address whether United Health would have breached its duties under the indenture if it did not provide such information, delinquent issuers would be prudent to continue to provide as much operating information to bondholders and the trustee as possible during the delinquency period.
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If you have any questions about the matters covered in this newsflash, please contact any of the lawyers listed below or your regular Davis Polk contact:
Michael Kaplan, Partner
Richard J. Sandler, Partner
Richard D. Truesdell, Jr., Partner
Janice Brunner, Associate