Debentures

3 Months Ended

May 31, 2020

DEBENTURES

On September 7, 2016, Fairfax Financial Holdings Limited (“Fairfax”) and other institutional investors invested in the Company through a private placement of new debentures in an aggregate amount of $605 million (the “Debentures”).

Interest on the Debentures is payable quarterly in arrears at a rate of 3.75% per annum. The Debentures mature on November 13, 2020, and each $1,000 of Debentures is convertible at any time into 100 common shares of the Company, for a total of 60.5 million common shares at a price of $10.00 per share for all Debentures, subject to adjustments. Covenants associated with the Debentures include limitations on the Company’s total indebtedness.

Under specified events of default, the outstanding principal and any accrued interest on the Debentures become immediately due and payable upon request of holders holding not less than 25% of the principal amount of the Debentures then outstanding. During an event of default, the interest rate rises to 7.75% per annum.

The Debentures are subject to a change of control provision whereby the Company would be required to make an offer to repurchase the Debentures at 115% of par value if a person or group (not affiliated with Fairfax) acquires 35% of the Company’s outstanding common shares, acquires all or substantially all of its assets, or if the Company merges with another entity and the Company’s existing shareholders hold less than 50% of the common shares of the surviving entity.

The following table summarizes the change in fair value of the Debentures for the three months ended May 31, 2020:


	As at
	May 31, 2020
Balance as at February 29, 2020	606
Change in fair value of the Debentures	(7)
Balance as at May 31, 2020	$	599

The difference between the fair value of the Debentures and the unpaid principal balance of $605 million is $6 million. The fair value of the Debentures is measured using Level 2 fair value inputs.

The following table shows the impact of the changes in fair value of the Debentures for the three months ended May 31, 2020 and May 31, 2019:


	Three Months Ended
	May 31, 2020		May 31, 2019
Income (charge) associated with the change in fair value from non-credit components recorded in the consolidated statements of operations	$	(1)	$	28
Income (charge) associated with the change in fair value from instrument-specific credit components recorded in AOCL	8		(8)
Total decrease (increase) in the fair value of the Debentures	$	7	$	20

For the three months ended May 31, 2020, the Company recorded interest expense related to the Debentures of $6 million, which has been included in investment income, net on the Company’s consolidated statements of operations (three months ended May 31, 2019 - $6 million). The Company is required to make quarterly interest-only payments of approximately $6 million in the second quarter of fiscal 2021 and approximately $5 million in the third quarter of fiscal 2021 when the Debentures mature.

Fairfax, a related party under U.S. GAAP, purchased $500 million principal amount of the Debentures. As such, the payment to Fairfax of interest on the Debentures represents a related-party transaction. Fairfax receives interest at the same rate as other Debenture holders.