Satisfaction of sinking fund payments with securities: Overview, definition and example
What is satisfaction of sinking fund payments with securities?
Satisfaction of sinking fund payments with securities refers to the process by which an issuer fulfills its sinking fund obligations by using previously issued securities instead of cash. A sinking fund is a reserve that a company sets aside to repay bonds or other debt instruments over time. Instead of making a cash payment, the issuer can contribute securities—such as previously issued bonds—toward the sinking fund requirement, reducing the need for immediate cash outflows.
For example, if a company has a sinking fund requirement of $5 million, it may choose to satisfy part or all of this obligation by delivering previously purchased bonds rather than paying cash.
Why is satisfaction of sinking fund payments with securities important?
Allowing the satisfaction of sinking fund payments with securities provides flexibility for issuers by reducing the cash burden of meeting debt repayment obligations. This approach benefits companies that prefer to manage liquidity by repurchasing securities at favorable prices and then using them to meet sinking fund obligations.
For bondholders, this provision can impact how the sinking fund operates, potentially affecting the availability and pricing of outstanding bonds. Investors need to understand whether the issuer has the discretion to use securities instead of cash, as this may influence the timing and method of repayment.
Without this option, companies would need to ensure they have sufficient cash available at scheduled sinking fund payment dates, which could strain liquidity, especially in capital-intensive industries.
Understanding satisfaction of sinking fund payments with securities through an example
Imagine a manufacturing company issues $100 million in bonds with a sinking fund provision requiring annual payments of $10 million. Instead of paying cash, the company repurchases $5 million worth of its bonds on the open market at a discount and uses them to satisfy half of its sinking fund requirement. The remaining $5 million is paid in cash.
In another example, a utility company issues debt with a sinking fund and buys back bonds gradually over time at favorable market prices. When a scheduled sinking fund payment is due, the company delivers $8 million in repurchased bonds instead of cash, meeting 80% of its obligation through securities.
An example of a satisfaction of sinking fund payments with securities clause
Here’s how a satisfaction of sinking fund payments with securities clause might appear in a bond agreement:
“The Issuer may, at its discretion, satisfy all or part of any scheduled sinking fund payment by delivering to the Trustee previously issued and outstanding Securities, provided that such Securities were acquired by the Issuer at or below par value. The balance of any sinking fund obligation not satisfied with Securities shall be paid in cash.”
Conclusion
The satisfaction of sinking fund payments with securities provides issuers with greater financial flexibility, allowing them to meet debt repayment obligations using previously issued bonds instead of cash. For companies, this strategy helps manage liquidity, while for bondholders, it is important to understand how it affects repayment terms and market bond availability. Including clear sinking fund satisfaction provisions in bond agreements ensures transparency and aligns expectations between issuers and investors.
This article contains general legal information and does not contain legal advice. Cobrief is not a law firm or a substitute for an attorney or law firm. The law is complex and changes often. For legal advice, please ask a lawyer.