What is Open-End Indenture
An open-end indenture is a clause in a revenue bond agreement that permits the issuer to use the same collateral for multiple bonds. This type of provision in a bond agreement provides flexibility for the bond issuer, allowing it to alter its financing mix.
Open-end indentures differ from closed-end indentures in that closed-end indentures restrict bond issuers from using the same collateral for multiple bonds. When an issuer uses the same collateral for multiple bonds, it places the bondholders at risk in the event that the issuer defaults. Collateral secures a loan by promising the lender something of value in the event that the borrower defaults. If the issuer promises that same collateral to multiple parties, the loan appears less secure.
BREAKING DOWN Open-End Indenture
Open-end indenture can look like a red flag to some investors. Potential underwriters sometimes perceive the use of collateral for multiple bonds as a sign that a company either anticipates losses or doesn’t have sufficient assets to cover all of its liabilities.
However, open-end indentures doesn't mean an issuer is insecure. It can instead indicate that an issuer anticipates significant growth, even if it currently does not have enough collateral to back multiple closed-end indentures.
Use of an open-end indenture typically reflects the type or amount of collateral backing a bond issue. For example, if an issuer uses its entire real estate portfolio as collateral, its portfolio often grows when the company purchases a new piece of property. However, in an open-end indenture, the company would still use that same collateral, the entire portfolio, to back multiple bonds, rather than separating individual pieces of real estate to use as individual pieces of collateral for individual bonds.
An issuer must specify if an indenture is open-ended in the bond indenture, which is a contract similar to a bond purchase agreement (BPA). The indenture is the document that establishes the terms of a bond sale, including whether the bond is subject to open-end or close-end indenture.
In order for an issuer to place an open-end indenture on a bond issue, their previous revenue levels must sometimes cover any new issues of bonds, or must reach another specified level. For their own protection, underwriters often stipulate these conditions for an open-end indenture in the bond purchase agreement.
Other Factors of a Bond Indenture
Bond indentures are agreements between a bond’s the issuer and the trustee who represents the interests of bond investors. The bond indenture must also include other specifications of the bond, including its maturity date, face value, the purpose of the bond issue and the schedule for interest payments.