Thus pari passu charge means, having equivalent charge/ rights or say charge-holders have equal rights over the asset on which pari pasu charge is created. In cross-border transactions, the pari passu principle can become complex due to differing legal systems and regulatory environments. Pari-passu is a Latin phrase used in contract law that describes situations where two or more assets, securities, creditors, or obligations are equally managed without preference. The term is most commonly found in reference to elements of bankruptcies, loans, and bonds. Within the marketplace, all new equity shares (called a secondary offering) have equal rights with existing shares or those that were previously issued. Pari-passu can apply to common stock shares, for example, so that each shareholder has equal rights to claims for dividends, voting rights, and the liquidation of assets.
Common shares
- Pari passu is a standard clause in a financial agreement that ensures that creditors to a contract or claims to assets, properties, securities, and debt obligations are treated equally.
- In financial and legal contexts, the term “pari passu” frequently surfaces, particularly in discussions about debt agreements, equity financing, and bankruptcy proceedings.
- In the event of default of repayment from the borrower, the joint lenders may decide to dispose of the security held by them to recover their dues.
- For example, if one investor makes 80% of the initial investment and the other two make 10% each, their share proportions will be distributed in the same way.
- Suppose SBI, BOI and PNB have financed working capital of Rs.25 crore, Rs.50 Crores and 100 Crores each to M/s ABC Ltd.
The lender in whose favour charge is first created is called the holder of ‘First Charge’. If a Subsequent charge is created in favour of a different lender against the same assets on which the first charge already exists, the subsequent charge holder is called the holder of the second charge. The bank which releases working capital finance will have the first charge over working capital (stocks of raw material, work-in-progress, finished goods, and receivables) funded by it.
In debt agreements, pari passu clauses ensure that all creditors holding the same class of debt are treated equally. This means that no single creditor can claim priority over others pari passu charge meaning in the event of a default or liquidation. For example, if a company issues multiple bonds, a pari passu clause would ensure that all bondholders are on equal footing regarding repayment.
Counterintuitively, some pari passu obligations might result in a pro-rata division of benefits. Dividing the asset in proportion to each party’s contribution is the only way to ensure an equal footing. In the corporate sector, the case of Re Maxwell Communications Corporation plc is often cited. This case involved the insolvency of a multinational media company and required the courts to navigate the interplay between English and U.S. insolvency laws. The court’s decision to uphold the pari passu principle across different jurisdictions demonstrated the clause’s robustness and its critical role in cross-border insolvencies. When companies issue bonds to raise capital, the clause assures that each bond is equal.
- The legal framework surrounding pari passu clauses is rooted in the principle of equitable treatment among creditors.
- To summarize, an exclusive charge provides a lender with priority rights over specific assets, and other lenders are excluded from making claims on those assets.
- A junior lien bond, also called a subordinate bond, has a subordinate claim to pledged revenue compared to a senior lien bond, also called a first lien bond.
- Banks that participate in the Joint Lending Program takes the share of the certain percentage of the total amount of finance under uniforms terms and conditions including interest.
- This decision underscored the importance of equal treatment and set a precedent for future sovereign debt restructurings.
Equity Shares
For example, unsecured bonds have equal rights in that coupons may be claimed without any particular bond having priority over another. Since an asset backs secured debts, they are often not fully equal to the other obligations held by the borrower. Since no asset supports unsecured debts, there are greater instances of borrower default or bankruptcy. The investment of party ABC was declared as Pari-passu to all other types of investment. This agreement will enable the party ABC with the same rights and privileges as that of other parties ITC and AHP.
Investments
In other words, the lack of equality in the right to payment nullifies the provision in such situations. In consortium, there is always pari passu charge on primary security as well as collateral security. But, in other cases, all the lenders (existing as well as new) must agree for sharing of pari-passu charge on primary securities or collateral securities as the case may. In fixed-income investments, the coupon is the annual interest rate paid on a bond. If new bonds with a 5% coupon are issued as parity bonds, the new bonds will pay $50 per year, but bondholders will have equal rights to the coupon.
Pari Passu agreement signifies the equal or unbiased right of payment under a specified clause within a financial instrument, such as loan, bond, or share class. As soon as the interested parties enter the contract, the pari passu clause would give every stakeholder equal right over liquidation, dividends, and voting. That is why the company clarifies that no priority would be given to any specific set of people involved in the deal while issuing the agreement. Pari passu highlights the equal priority or status among parties, while pro rata focuses on the proportional division of payments or resources based on the size of each party’s stake or claim. Pari-passu is common in bankruptcy proceedings as well as debts such as parity bonds in which each party gets the same amount. For creditors, the assurance of equal treatment provided by pari passu clauses can be a double-edged sword.
Implications for Creditors and Debt Restructuring
Pari passu is a Latin term meaning “an equal footing” and is commonly applied in bankruptcy, liquidation, inheritance, and insolvency. These are the scenarios wherein different parties claim equal rights and a proportionate share of the asset allocation. With this clause in place, the designated entities do not have to bear the good and bad sides of the contract. Pari-Passu means “equal footing,” and in finance, it means two or more parties treated the same regarding a financial claim or contract. This term can apply to many different areas of finance, including shares, loans, or bonds with equal seniority or payment rights.
The leader bank (usually the bank that takes up the largest share of the limits deemed to be the leader of the consortium/JLA) will hold the common documentation executed by the borrowing company. This type of charge created through common documents on behalf of multiple banks is called the Pari-Passu charge. The law requires such charges on assets of the company to be registered at ROC within 30 days from the date of creation of the charge or such extended time permitted by the ROC. Pari passu is a standard clause in a financial agreement that ensures that creditors to a contract or claims to assets, properties, securities, and debt obligations are treated equally. It is commonly employed in bankruptcy, liquidation, inheritance, insolvency, asset management, financing, wills and trusts, and debt. The clause would provide every stakeholder equal rights over liquidation, dividends, and voting as soon as the parties sign the contract.
In the example given, the Foreign Lenders have an exclusive charge on Plant & Machinery, and the Solar Project Lenders have an exclusive charge on Solar Projects. This arrangement gives each set of lenders priority over the assets they financed, safeguarding their interests in case of default or financial distress. In secured lending, terms like ‘first charge,’ ‘second charge,’ and ‘pari passu charge’ are pivotal, delineating the priority and rights of lenders over a borrower’s assets.
These distinctions profoundly affect the dynamics of lending, particularly in default or insolvency scenarios. Here’s an exploration of their meanings and implications in financing arrangements. The presence of pari passu clauses in financial agreements has profound implications for creditors, particularly in the context of debt restructuring. When a company faces financial distress, the restructuring of its debt becomes a necessary step to ensure its survival and continued operation.
In the early 2000s, Argentina defaulted on its debt, leading to a protracted legal battle with holdout creditors who refused to accept the restructuring terms. The U.S. courts ruled that Argentina’s payment to restructured bondholders without making a ratable payment to holdout creditors violated the pari passu clause. This decision underscored the importance of equal treatment and set a precedent for future sovereign debt restructurings.
This is particularly relevant in scenarios involving preferred shares, where investors may have specific rights and privileges. A pari passu clause in this context ensures that all preferred shareholders are treated equally in terms of dividends and liquidation preferences. For instance, if a company is liquidated, a pari passu clause would ensure that all preferred shareholders receive their due share of the remaining assets before any distribution to common shareholders. This provision helps in maintaining investor confidence, as it guarantees that their investments will be treated equitably, thereby encouraging more participation in equity markets. Most of the large borrowers are financed by multiple banks in a consortium or under a Joint Lending Arrangement (JLA). Each bank that participates in the joint lending program takes a share of a certain percentage of the total amount of finance under uniform terms and conditions including the rate of interest.