BDF – WS7 – TRANSFERRING A BANK’S RIGHTS, EVENTS OF DEFAULT & SUBORDINATION

WHY SELL A LOAN?

When a bank disposes of their loan = asset sale (i.e. the Loan is an asset of the bank which can be sold or bought)
Under E-Law contractual rights can be freely transferred (unless contract states contrary) but transfer of obligations require consent of all the P’s. Thus selling a loan requires borrower to agree to any changes in the bank’s obligations
The most basic aim of a bank in selling an asset (i.e. a loan) is to remove the risk associated with it

REASON	EXPLANATION
Risk management	Too much emphasis on one type of loan or one type of borrower carries risk (concentration) A bank may sell some existing loans to allow it to make others to spread its risk (diversify) The most basic aim of bank in selling an asset (i.e. a loan) is to remove the risk associated with it
Realising capital P.121	Realising capital in long term loans will help improve bank’s liquidity Could enable bank to take advantage of new lending opportunities which may give better returns. If bank want to concentrate on a particular market, may sell loans outside of that market
Balance sheet	A bank’s ability to lend is subject to internal & external requirements to retain a % of its capital as cover for its loans (‘regulatory capital requirements’ i.e.), thus, If bank’s capital is entirely allocated, can’t participate in new loans (unless they carry a zero risk weighting) Unless bank can raise more capital, it must sell some existing loans to release capital for backing new ones.
Profit	A bank may see an opportunity to make some short-term profit by selling a loan. E.g. if interest rates start to fall, an existing fixed interest loan might become very marketable. Conversely, if a borrower has defaulted or is performing badly, a lender may choose to sell its participation at a discount to crystallise any loss (see p4 ’types of assets sold’).
Prestige	Bank may want an initial involvement in a facility because it is high profile or important. It may sell some or its entire share of the loan once it has derived any benefit to its market profile. Some forms of asset sale will allow a bank to keep its name to a loan but to lay off the lending risk.
Syndication	A bank may, either alone or with a small group of banks (Lead Arrangers), sometimes provide the full amount of a loan but bring in other banks to form a syndicate ‘post-closing’. This ‘postponement’ of syndication allows large loans to be made quickly.

¿What are the BORROWER’s CONCERNS?

Will there be increase costs provisions? (new bank may have higher costs)
Will they lose their current good relationship with the existing bank?
Complete prohibition on sale of the debt in the facility agreement would push up fees.

ADVANTAGES

DISADVANTAGES

Moving obligation

- Novation is only proven method of moving contractual obligations as well as rights.

- This allows existing bank to dispose of a loan which has an unutilised commitment (eg, under an RCF). In RCF the obligation to pay B is renewed, so Novation is useful as the obligation is cancelled. Assignment would be a useless method for RCFs.

- Conversely, new bank achieves a relationship with borrower as if it were a party to facility agreement.

Consent

Need consent of all parties involved in original loan doc, incl. ga’tors (giving borrower a strong bargaining position (unless advanced consent or transfer certificates were used in the facilities agreement))
May be Difficult to get whole Syndicate to sign the necessary docs to effect novation
Solution = use a ‘transfer certificates’ clause in the loan agreement. Facility agreement will contain clause stating parties agree in advance that bank can novate any or all of its commitment.
To accept offer, new & existing bank must execute a transfer certificate (may need borower’s consent in some circumstances (see borrower’s perspective p5-?).
Pro-forma certificate usually a schedule to facility participation and/or its commitment.
Goodridge v Macquarie Bank Limited (Australian) held that a prior agreement to novate in loan agreement was invalid & simply an ‘agreement to agree’.
CoA in Habibsons Bank Ltd v Standard Chartered Bank (Hong Kong) Limited criticised Goodridge
Habibsons = obiter, but shows that properly drafted transfer certificates should still be effective.
A system similar to the transfer certificate is the transferable loan certificate (TLC). Uncommon.
Significant difference = TLC operates through agent bank issuing certificates & keeping a register of transfers.

Risk transfer

Novation can fully remove a loan (including any undrawn commitments) from existing bank’s Balance Sheet & so exclude it from any regulatory capital requirements. A clean break for the leaving bank.

Secured loans

Novation replaces existing with new obligations thereby restarting hardening periods for transactions at undervalue, preferences (ss238-241 IA 86) & floating charge avoidance (s245 IA)
Unlikely a liquidator will use these provisions
If security is re-dated at the time of novation, could lose priority
Solution (at common law) = appoint a security trustee to hold any security granted under loan on trust for the banks. Beneficiary banks may change with the security remaining.
Civil jurisdiction = ‘parallel debt’ structure.

ADVANTAGES OF NOVATION

DISADVANTAGES OF NOVATION

Easy syndication

If original facility agreement includes transfer certificates (see disadvantage ‘consent’), existing (& any subsequent) bank can take on large commitment without delay of putting an underwriting syndicate together, knowing that it will easily be able to sell all/part of its commitment

Disclosure

For obvious reasons, it is difficult to hide the identity of a transferee bank using novation.

Sub-participation

Risk transfer

Effectively removes a loan from inclusion in existing bank’s regulatory capital requirements, other than in respect of undrawn commitments (see ).
Existing bank should ensure that any sub-participation agreement requires new bank to be subject to terms of any re-financing of the borrower. Failure = risk jeopardising an effective transfer of risk.
New Bank will get fees (that’s why they accept to participate)

Risk transfer

Funded sub-participation may not be fully effective to off-load (entire) risk of undrawn commitments if it simply results in existing bank taking a risk on new bank instead of the borrower.
Sub-participation agreement must ensure that existing bank is put in funds in time to meet borrower’s demands for utilisation in order effectively to remove risk.

Consent

Unless prohibited in original facility agreement (unlikely) can sub-participate without consent of borrower.
Problem = poss breach of duty of confidentiality (Tournier v National Provincial) by giving info on borrower to new bank
Solution = Include clause in original facility agreement = banks can release info about borrower & loan without a breach of duty

Sub-participant’s double credit risk

New bank must take credit risk of Existing bank & borrower. Thus New bank takes double risk
If borrower liquidation, new bank receives what existing bank can reclaim (because of the non-recourse nature)
If existing bank liquidation, new bank = unsecured creditor.
This risk will be reflected in new bank’s fees for sub-participation
New Bank is likely to be an unsecured creditor against Bank 1 in case of Borrower’s liquidation

Non-disclosure

Existing bank doesn’t have to disclose a sub-participation to borrower (NB confidentiality issue – see above) & most sub-participations will be ‘silent’.
Advantage for existing bank & borrower = relationship maintained despite risk being laid off

LEGAL ASSIGNMENT

ADVANTAGES

DISADVANTAGES

Rights transferred:

Effective method of transferring rights without requiring borrower’s consent (NB see restrictions )
Remove loan from Balance Sheet.

Obligations not transferred:

An assignment can’t transfer assignor’s obligations. Existing bank can’t assign any undrawn commitments without the borrower’s consent (makes assigning RCFs problematic)
Any obligations the existing bank owes to its fellow syndicate members will not be transferred – some facility docs contain proviso that assignment will be effective only if new bank gives an undertaking to perform the existing bank’s obligations towards other syndicate banks.
Some agreements go further - purport to assign the existing bank’s rights & require new bank to assume all the existing bank’s obligations (including lending commitments).

Borrower’s payments:

On receiving notice of assignment, borrower is obliged to pay any monies due under the assigned loan to the new bank

Rights not transferred:

Rights under a contract can be assigned without consent only in ‘cases where it can make no difference to the person on whom the obligation lies to which of two persons he is to discharge it’ (Tolhurst v Associated Portland Cement Manufacturers).
Objective test so character of an assignee will be ignored.
Danger that any indemnity provisions for increased costs might be unassignable without consent because they are ‘personal’ (e.g., they may vary substantially with the jurisdiction of a bank).
The standard transfer provision will...

#10289 - Transfer Banks Rights Events Of Default Subordination - Finance and Capital Markets

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