When issuing bonds with collateral, businesses often focus on the value of assets and the security ratio. However, the provisions on management, supplementation, discharge and disposal of assets can directly impact the right to take the initiative in business throughout the bond term. The problem is not only which assets are used as collateral, but also who has the right to decide on that asset, under what circumstances and with what limits.
Depending on the issuance structure, the collateral may belong to the issuer or a third party, such as a shareholder or the parent company
Collateral: Ownership does not mean full disposition
Collateral helps strengthen debt recovery and bondholder confidence. In turn, the business may have to accept restrictions on the transfer, exploitation, replacement, or use of the asset for another transaction.
Depending on the issuance structure, the collateral may belong to the issuer or a third party, such as a shareholder or the parent company. Therefore, it is necessary to distinguish between the enterprise that is obliged to repay the debt, the guarantor and the owner of the asset; the rights and obligations of these entities do not automatically overlap.
Even if ownership is retained, the guarantor may have to obtain approval before disbursing, replacing, or disposing of the property. These restrictions may exist as soon as the secured transaction is established, not just after a payment breach arises.
The notable risk is not only the loss of assets when the obligation is not fulfilled, but also the loss of flexibility in business activities when the business is still paying debts on time.
The collateral manager: Managing or having the right to decide?
The collateral management organization may be entrusted to keep records, monitor the condition of the asset, check the collateral ratio, receive notices or participate in the handling of the asset. However, the name "collateral manager" does not establish the right to decide on the disposal by itself.
What must be determined is the legal status of this organization: only providing management services, at the same time as the secured party, or authorized or represented to exercise certain rights? Each status must have a corresponding basis and scope of rights.
The right to request information, the right to notify the shortage of assets, the right to request additional assets and the right to handle assets are different rights. It is not possible to deduce from the right to manage records the right to determine the violation or decide to sell the property by oneself.
When negotiating, the enterprise needs to determine which entity is entitled to the directive; what conditions, forms and procedures must be met by the directive; to what extent the management is obliged to check the validity; and what feedback or remedial mechanism the enterprise has.
Particular caution should be exercised with phrases that grant decision-making power "according to its own judgment" or "at the request of the management" without objective criteria. An enforceable mechanism must clearly delineate powers, not just broad authority.
Valuation, replenishment, and discharge: Risks throughout the bond lifecycle
The collateral ratio is an obligation that is monitored throughout the bond term, not just at the issue date. The stock price may fall, real estate may be revalued, and property rights may change according to the project progress or the solvency of the partner.
Enterprises can still pay interest on time but violate the commitment on the guarantee ratio due to a decrease in the value of assets. If the period of additional assets is too short, the enterprise must find a new source of guarantee at the time of an unfavorable market; failure to remedy may lead to consequences of violations under bond conditions.
Therefore, it is necessary to clearly agree on the method and frequency of valuation, criteria for selecting valuation units, the right to request re-valuation when there is a significant difference, the method of calculating the guarantee ratio and the time limit for remedy. It should not be taken for granted that the reduction of the security ratio should be equated with the basis for immediate disposal of assets; the consequences must be determined according to valid agreements and applicable laws.
For example, listed shares used as collateral fall sharply due to market correction, even though the business still pays interest in full. In this situation, the duration of the addition of assets, the right to replace the asset, and the conditions for determining the event of breach may be as important as the initial guarantee ratio.
On the other hand, enterprises need to have a mechanism to withdraw, replace or partially discharge when the security conditions have been met. The contract should stipulate quantitative criteria, documents to be submitted, response period and obligation to coordinate discharge; otherwise, an asset eligible for discharge may still be "frozen" because of the lengthy approval procedure.
Handling of collateral: Distinguishing grounds, jurisdiction and order
The disposal of collateral can have a direct impact on the core assets, ownership structure, or the ability to continue doing business. Therefore, the disposal clause must answer three distinct questions: when it is disposed of, who has the right to decide, and in what order.
Firstly, the grounds for handling must be determined in accordance with the law and agreement. Violation of payment obligations should be distinguished from late reporting or procedural violations. The parties can agree on other cases of handling within the limits of the law, but enterprises should negotiate the threshold of material violations and appropriate remedial periods.
Second, it is necessary to clarify who has the right to determine the violation event, who is given instructions and who is allowed to directly take the handling measures. A notice by the management does not automatically replace the basis for handling or proves that the subject sending the notice has sufficient authority.
Thirdly, the contract needs to stipulate the mechanism for notifying and handing over assets, the method of handling, valuation, costs and the order of dividing the proceeds. These issues need to be compared with the Civil Code 2015, especially the regulations on the case of handling, notification and method of handling collateral.
If the asset is sold at a time when the market is illiquid without a reasonable pricing mechanism, both the business and the bondholder can suffer losses. Therefore, the right to dispose needs to be accompanied by a transparent process and corresponding responsibility.
The manager can hold records, receive instructions and participate in decisions that greatly affect assets.
One transaction, many documents: Avoid conflicts of rights and obligations
The collateral management contract does not exist independently. Bond conditions establish commitments and events of breach; pledge contract, mortgage or other security agreement establishes security rights; while management contracts stipulate how to coordinate and exercise assigned rights.
Risks arise when the documents are inconsistent: the bond conditions for the remedy period, but the management contract allows for immediate processing requests; or the guarantee contract limits the processing method, while the management contract expresses broader authority.
Enterprises need to compare according to each event: revaluation, supplementation, replacement, discharge, identification of violations and handling of assets. At the same time, it is necessary to clarify the principle of priority applied when documents contradict, in accordance with the nature of each transaction and mandatory provisions of law.
Contract negotiation: Authority must be commensurate with responsibility
The manager can hold records, receive instructions and participate in decisions that greatly affect assets. Therefore, the contract should not only stipulate the detailed obligations of the enterprise but leave open the responsibilities of the manager.
It is necessary to determine the standards for preservation of dossiers, the time limit for processing requests, the obligation of confidentiality, the responsibility to inspect the instructions within the assigned scope and the consequences of exceeding the authority or breach of obligations. The exemption clause should not be so broad as to lose the meaning of the core obligations.
Before signing, businesses should make a table of jurisdiction for each key situation: who decides, which grounds to trigger, who needs to be notified, how long is the time limit for remediation, and the consequences if it is not implemented. This table helps detect conflicts between documents and determine what needs to be negotiated.
A balancing mechanism is not a mechanism that minimizes the rights of the manager, but rather gives enough rights to protect bondholders, and at the same time places that right within verifiable limits and associated with clear responsibilities.
In bond issuance, collateral is not only a source of recovery of contingency debts but also an object of a mechanism for allocating rights and responsibilities. A lack of contract can cause enterprises to significantly lose the initiative in assets, even if they have not violated their payment obligations.
Therefore, before signing a collateral management contract, enterprises need to look beyond the value of assets and the collateral ratio: to whom is the control vested, when it arises, what procedures are carried out and what are the limits? It is this clarity that creates a guarantee mechanism that is both enforceable and reasonably protects the interests of businesses and investors.
