Article 194 CRR legal opinion on English law BAFT Master Participation Agreement

Transcription

1 Article 194 CRR legal opinion on English law BAFT Master Participation Agreement Geoffrey Wynne, Partner Hannah Fearn, Associate Sullivan & Worcester UK LLP Introduction by Sean Edwards International Trade and Forfaiting Association (ITFA) 28 May 2015

2 Introduction by Sean Edwards of the International Trade and Forfaiting Association (ITFA) 2

3 Overview Background: the Basel III regime / CRD IV The new Article 194 requirement Participations What is a participation? Participations and Dodd-Frank (another topical regulatory issue) Participations and credit risk mitigation under CRD IV How can the S&W opinion help institutions? Content of the opinion and overview of key provisions Ideas on how to address the requirement to establish enforceability in all relevant jurisdictions Considerations for institutions when using the generic opinion in relation to specific transactions What do institutions need to consider (in terms of requirements for credit risk mitigation) when documenting participation agreements using the BAFT MPA? 3

4 The Basel III regime: CRD IV Capital Requirements Regulation (EU Regulation No 575/2013) (CRR) Part of EU s legislative package to implement the requirements of Basel III CRR together with the Capital Requirements Directive known as CRD IV CRR is directly applicable to financial institutions in the EU Bulk of the provisions came into force on 1 January 2014 Contains the prudential rules for credit institutions and investment firms Chapter 4 (Credit risk mitigation) sets out the requirements that must be met before any credit protection obtained by an institution can be taken into account in the calculation of risk-weighted exposure for the purposes of the CRR Requirements for credit risk mitigation are broadly similar to the requirements under the equivalent legislation under the Basel II regime For a participation (whether unfunded or funded) to qualify as credit risk mitigation, the benefiting institution must satisfy the requirements of Chapter 4 (Credit risk mitigation) CRR 4

5 Article 194 CRR Principles governing the eligibility of credit risk mitigation techniques Key new requirement: Article 194.1: The technique used to provide the credit protection together with the actions and steps taken and procedures and policies implemented by the lending institution shall be such as to result in credit protection arrangements which are legally effective and enforceable in all relevant jurisdictions. The lending institution shall provide, upon request of the competent authority, the most recent version of the independent, written and reasoned legal opinion or opinions that it used to establish whether its credit protection arrangement or arrangements meet the condition laid down in the first subparagraph. upon request of the competent authority independent, written and reasoned Possible to use generic opinions? Unofficial opinion of the Directorate General published by European Banking Authority: [i]f an institution engages in the same type of transaction, with counterparties located in the same jurisdiction and uses the same credit risk mitigation technique, then it can rely on the same opinion 5

6 Participations (1) What is a participation? A way of buying and selling risk Risk participation Underlying obligor 1. $100m loan Grantor institution 2. Sells 50% risk participation Participant institution 3. Defaults on $10m repayment instalment 4. Pays share of defaulted amount - $5m Funded participation 1. Utilisation of $100m loan 2. Participant with 50% participation pays share of utilised amount - $50m Underlying obligor 3. Repays $10m instalment Grantor institution 4. Pays share of repaid amount - $5m Participant institution 6

7 Participations (2) Distinction between English and New York approach Independent debtor / creditor relationship or transfer of direct interest in the underlying transaction True sale treatment Participations and Title VII instruments under Dodd-Frank Onerous reporting requirements for swaps and other credit derivatives under Dodd-Frank Exclusion for Identified Banking Products, which includes (for example) loans, LCs and a participation in a loan which the bank owns that is sold to qualified investors SEC guidelines confirm that LMA-style participations in loans could fall within the exclusion, subject to meeting certain criteria. One of these criteria is that The entire purchase price for the loan participation is paid in full when acquired and not financed Two key questions: Does a participation in a trade finance product that is not a loan fall within the IBP definition? The definition refers only to loans Does an unfunded participation fall within the IBP definition? The SEC criteria require that the participation is paid in full (i.e. funded) when acquired BAFT has written to the Federal Reserve and the OCC to request clarification on whether trade finance risk participations fall within the IBP exception Wider question: why does a participation fall within the definition of swap under Dodd-Frank at all? 7

8 The BAFT MPA BAFT English form Master Participation Agreement (the BAFT MPA) is a template master agreement for risk participations and funded participations in trade transactions Governed by English law with options to submit to English courts or arbitration Institutions use participations to sell trade finance risk Trade loans, letters of credit, demand guarantees and other trade instruments Institutions might want to take participations into account as credit risk mitigation for the purposes of calculation of capital requirements under CRR 8

9 Participations and credit risk mitigation What is credit risk mitigation under the CRR? a technique used by an institution to reduce the credit risk associated with an exposure or exposures which that institution continues to hold (Art 4.57 CRR) Credit protection can be funded or unfunded CRR contains lists of eligible assets and eligible protection agreements How is a risk (unfunded) participation categorised? Not expressly listed as an eligible protection method Participant undertakes to pay an amount following a payment default by the underlying obligor (clause of the MPA) Effectively functions like a guarantee for purposes of the list of eligible protection agreements in the CRR How is a funded participation categorised? Not expressly listed as an eligible protection method A lending institution might treat a funded participation as directly reducing its exposure to the underlying obligor, outside of the provisions of Article 194 CRR Grantor can retain funds received from participant until the underlying obligor has repaid the exposure (clauses and of the MPA) Can be viewed as akin to cash on deposit with the lending institution for the purposes of the list of eligible assets for funded credit protection in the CRR 9

10 How can the S&W opinion help? Institutions using unfunded and funded participation agreements as credit risk mitigation need to satisfy the Article CRR requirement to obtain legal opinions on enforceability ITFA, BAFT and S&W have worked together to provide a generic legal opinion on the enforceability of the BAFT MPA for the purposes of Article CRR Helps banks in compliance with regulatory requirement to obtain a legal opinion Opinion also addresses how the BAFT MPA meets the credit risk mitigation requirements set out in Chapter 4 (Credit risk mitigation) of the CRR Supports banks in demonstrating that their participation agreements are eligible credit risk mitigation Opinion given for the benefit of ITFA and BAFT members 10

11 Content of the opinion: opinions Legal effectiveness and enforceability of participation agreements documented using the BAFT MPA To satisfy the Article CRR requirement Reasoned opinion that a participation agreement documented using the BAFT MPA will meet the criteria for credit risk mitigation under the relevant provisions of the CRR Detailed reasoning that addresses the numerous requirements set out in Articles 194 to 217 CRR To assist the user, each paragraph setting out such reasoning is annotated with the relevant CRR provisions The reasoning is divided into sections: participations generally unfunded participations funded participations different approaches and methods used in the CRR 11

12 Reasoning: key provisions (unfunded) Akin to a guarantee Key CRR requirements for an unfunded participation: The credit protection is direct The extent of the credit protection is clearly defined and incontrovertible The credit protection contract does not contain any clause, the fulfillment of which is outside the direct control of the lender, that: (i) would allow the protection provider to cancel the protection unilaterally; (ii) (iii) (iv) would increase the effective cost of protection as a result of a deterioration in the credit quality of the protected exposure; could prevent the protection provider from being obliged to pay out in a timely manner in the event that the original obligor fails to make any payments due; or could allow the maturity of the credit protection to be reduced by the protection provider. The credit protection contract is legally effective and enforceable in all relevant jurisdictions On the qualifying default of or non-payment by the counterparty, the lending institution has the right to pursue, in a timely manner, the guarantor [without] first having to pursue the obligor The guarantee is an explicitly documented obligation assumed by the guarantor The guarantee covers all types of payments the obligor is expected to make in respect of the claim What about allocation of fraud risk in the BAFT MPA? 12

13 Reasoning: key provisions (funded) Akin to cash on deposit Key CRR requirements for a funded participation: The assets held by the institution is sufficiently liquid and their value over time sufficiently stable to provide appropriate certainty as to the credit protection achieved The lending institution has the right to liquidate or retain, in a timely manner, the assets from which the protection derives in the event of the default, insolvency or bankruptcy or other credit event set out in the transaction documentation of the obligor The degree of correlation between the value of the assets relied upon for protection and the credit quality of the obligor shall not be too high 13

14 Content of the opinion: assumptions Generic opinion so necessary to make some assumptions Some assumptions relate to specific requirements of the CRR which would need to be satisfied for each transaction Example: for an unfunded participation, the participant must be an eligible provider of credit protection List of eligible providers in CRR There are some more general requirements of the CRR that would need to be satisfied by an institution intending to benefit from the credit risk mitigation For example, an institution s internal systems and policies applying to all participation transactions must meet certain requirements There are also some general assumptions For example, that the parties to the relevant participation agreement have capacity and authority to enter into, and have duly executed, the transaction documents 14

15 Enforceability in all relevant jurisdictions Article CRR requires that legal opinions are obtained to establish that the relevant credit protection arrangement is legally effective and enforceable in all relevant jurisdictions England (as the governing law jurisdiction) Jurisdiction of the parties, in particular the participant (as this is where the participation agreement would need to be enforced) The opinion is limited to matters of English law Opinion includes guidance on where an English court judgment or an arbitral award may be enforced in a foreign jurisdiction English court judgments: Enforceable in EU member states pursuant to Brussels Regulations and in Iceland, Switzerland and Norway pursuant to the Lugano Conventions Can be enforced in other jurisdictions where there is reciprocal treatment of judgments (see list of countries in the opinion) Arbitral award can be enforced in New York Convention countries The institution would need to satisfy itself as to any procedural and practical limitations on enforcement in the relevant jurisdiction 15

16 Considerations for a generic opinion Reasoning and assumptions: a checklist for transactions Will be necessary for an institution to be comfortable that all requirements of the CRR are satisfied for the participation agreement to qualify as CRM For example: that the participant is an eligible provider (for risk participations) Necessary to obtain a legal opinion in respect of every assumption? Not practical Certain matters cannot be confirmed by a legal opinion Capacity and authority of the participant Relevant to enforceability Cannot be addressed in a generic opinion where the parties are unknown Not clear whether the regulator would expect the enforceability opinions required under Article CRR to include capacity opinions on the parties It may be reasonable for an institution to satisfy itself as to these matters through its due diligence on the participant 16

17 Guidance for using the BAFT MPA Institutions using the BAFT MPA often make changes to the template In such circumstances, it may still be possible to use the opinion The opinion includes a schedule setting out guidance on the provisions of the BAFT MPA that are central to satisfying the requirements for credit risk mitigation under the CRR Deleting or amending these provisions in a participation agreement might affect whether a related participation agreement meets the criteria for credit risk mitigation Non-exhaustive list of example provisions which, if included in a participation agreement, might affect whether that participation agreement meets the criteria for credit risk mitigation Institutions could refer to this schedule when drafting participation agreements to ensure key provisions are retained and the requirements of the CRR are met 17

18 Concluding thoughts 18

19 Q&A 19

20 Geoffrey Wynne Partner Geoffrey Wynne is head of Sullivan & Worcester s London office and also head of its Trade & Export Finance Group. He has extensive experience in banking and finance, specifically trade and structured trade and commodity finance corporate and international finance, asset and project finance, syndicated lending, equipment leasing, workouts and financing restructuring. Geoff is one of the leading trade finance lawyers and has advised extensively many of the major trade finance banks, multilateral financers and companies around the world on trade and commodity transactions in virtually every emerging market including CIS, Far East, India, Africa and Latin America. He has worked on many structured trade transactions covering such diverse commodities as oil, nickel, steel, tobacco, cocoa and coffee. He has also advised on ownership structures for commodities and receivables financings. Geoff sits on the editorial boards of a number of publications and is a regular contributor and speaker at conferences. He is also the editor of and contributor to The Practitioner s Guide to Trade and Commodity Finance published by Sweet & Maxwell and A Guide to Receivables Finance, a special report from TFR published by Ark. Sullivan & Worcester UK LLP Tower Old Broad Street London EC2N 1HQ 4475 T +44 (0) F +44 (0) gwynne@sandw.com 20

21 Hannah Fearn Associate Hannah Fearn is an associate in the Trade & Export Finance team in the London office. She has advised on a wide range of cross-border trade finance transactions in a variety of jurisdictions, with an emphasis on emerging markets. She has acted for leading banks in the market and her experience includes advising on syndicated and bilateral pre-export commodity financings, letter of credit facilities, trade instruments and receivables financings. In 2011, Hannah spent six months on secondment to the London-based trade finance legal team of a major US bank. Hannah is a contributor to A Guide to Receivables Finance, a special report from TFR published by Ark. Sullivan & Worcester UK LLP Tower Old Broad Street London EC2N 1HQ T +44 (0) F +44 (0) hfearn@sandw.com

22 Awards & Recognition TFR Best Law Firm in Trade Finance Trade & Forfaiting Review (TFR) recently named Sullivan & Worcester "Best Law Firm in Trade Finance" in its 2014 TFR Excellence Awards The Legal 500 UK 2014 Sullivan & Worcester UK LLP was ranked in the following category in The Legal 500 UK: Trade Finance (Tier 1) Chambers UK 2015 Geoffrey Wynne is ranked a Tier 1 lawyer and Simon Cook a Tier 3 lawyer in Chambers UK 2015 Directory. GTR Best Law Firm 2014 Poll Sullivan & Worcester UK LLP was a top ranked firm (no 3) in the Global Trade Review (GTR) Best Law Firm 2014 poll 22

23 Sullivan & Worcester advise clients concerning their activities throughout the world, with a special emphasis on the emerging markets of Africa, Asia, the CIS countries and Latin America. Our practice is multi-disciplinary, involving attorneys and solicitors expert in trade, banking, securitization, securities law, project finance, insurance, tax, compliance issues and dispute resolution. In addition to trade and commodities finance, the firm intends to build up a London practice linked closely to our U.S. practice and the needs of our clients worldwide. The office will also benefit from our joint venture in Israel, ZAG-S&W, and significant client activity across Europe and Asia. We will broaden and enhance our existing practices in cross-border finance, mergers and acquisitions, tax, banking and international arbitration. OFFICES Boston One Post Office Square Boston, MA T F New York 1633 Broadway 32 nd Floor New York, NY T F Washington, DC 1666 K Street, NW Washington, DC T F London Sullivan & Worcester UK LLP Tower Old Broad Street London, EC2N 1HQ T +44 (0) F +44 (0) Sullivan & Worcester Sullivan & Worcester is the collective trade name for an international legal practice. Sullivan & Worcester UK LLP is a limited liability partnership registered in England and Wales under number OC and is a practice of registered and foreign lawyers and English solicitors. Sullivan & Worcester UK LLP is authorised and regulated by the Solicitors Regulation Authority ( SRA ). The term partner is used to refer to a member of Sullivan & Worcester UK LLP. A list of the names of all the partners is available for inspection at our registered office, Tower 42, 25 Old Broad Street, London, EC2N 1HQ. Please see sandw.com for Legal Notices, including further information on our professional obligations. This presentation is not designed to provide legal or other advice and you should not take, or refrain from taking, action based on its content. We are providing information to you on the basis you agree to keep it confidential. If you give us confidential information but do not instruct or retain us, we may act for another client on any matter to which that confidential information may be relevant