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The Transition Away from LIBOR

September 6, 2017

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LIBOR, or the London Interbank Offered Rate, is a benchmark utilized in a variety of financial transactions (including the setting of interest rates in credit agreements). It was intended to be an average of the rates at which banks can obtain unsecured funding in the London interbank market for a specified time period in a specified currency. The rate is based on submissions by banks to the LIBOR administrator (currently ICE Benchmark Administration Limited) of their good faith estimate of borrowing costs and not necessarily actual transactions. Since estimates can at times be imprecise, together with the fact that (particularly after the financial crisis) unsecured credit was not generally available to banks in the London interbank market for periods of time, LIBOR as a benchmark was ripe for reconsideration.

On July 27th, Mr. Andrew Bailey, Chief Executive of the U.K. Financial Conduct Authority (FCA) announced that the FCA will no longer require banks to submit quotes for LIBOR rates in sterling by the end of 2021, indicating that the benchmark that underpins trillions of dollars in financial contracts will be phased out by 2021 and replaced with a benchmark that is more closely tied to interest rates for actual transactions in the lending markets. This announcement has prompted plenty of concerns and more than a few troubling headlines, especially given the extremely common use of LIBOR as an interest rate benchmark in commercial credit agreements, adjustable rate mortgages and other financing arrangements.

Notwithstanding some of the more recent reactions, the financial markets have seemingly taken this development in stride without much turmoil. There are a few reasons for this. First off, there are almost 4 ½ years before this reporting requirement ends, and work has already begun to determine LIBOR’s replacement.1 Second, LIBOR may still be available even if banks are no longer required to report their quotes, although caution has been expressed not to rely on this. Last, in the commercial loan context, customary fallbacks have been built into the “LIBOR” definitions in most well-drafted credit agreements that could provide short term solutions in the event of the unavailability of the LIBOR screen rate.

While the market does seem to be generally in agreement that it is premature to attempt to craft a definitive solution to this issue now, since there is insufficient information as to what will “replace” LIBOR (and how that replacement might affect the all-in rate in any particular credit facility), market participants can take proactive steps now to prepare for the eventual transition away from LIBOR to a new benchmark rate.

First, we would recommend a review of any applicable fallback provisions mentioned above to analyze whether these provisions should be amended now (or in the next couple of years) to attempt to facilitate a smoother transition to an eventual discontinuation of LIBOR (as opposed to temporary unavailability). As highlighted by the August 3rd LSTA article, “LIBOR (Transition) in the Loan Market”, these fallbacks were designed for temporary disruptions rather than a full transition away from the use of LIBOR as a benchmark. Moreover, some fallback language is better than others. For example, some language focuses on the unavailability of the publication of LIBOR, rather than the actual underlying rate itself. If the underlying benchmark rate goes away, as opposed to just the referenced information source, the ability of an agent or designated bank to specify an alternative information source as a screen rate will be of no use. Other fallback language is much more broad, in the sense that it permits a lender or agent to determine LIBOR “in good faith” based on a variety of factors that can include, among others, an offered quotation rate to first class banks for deposits in the London interbank market by the agent or a designated bank as well as a rate determined on the basis of quotes from designated “reference banks”. This creates more flexibility in this context, but it could be argued that it gives the lender or agent too much control in an environment where the traditional LIBOR has simply disappeared.

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A $1.5 Billion (Un)Secured Loan

February 2, 2015

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A $1.5 Billion (Un)Secured Loan

February 2, 2015

Authored by: Brian Devling and Jeff Chavkin

An opinion from the Second Circuit Court of Appeals in In re Motors Liquidation Company, relying on the Delaware Supreme Court’s answer to a certified question highlight the need to focus on the details when dealing with financing statements and terminations under Article 9 of the Uniform Commercial Code.  Because the parties in that case did not pay attention to the details, a $1.5 billion secured term loan became unsecured loan.

General Motors had two separate credit facilities led by JPMorgan Chase Bank, N.A., as agent for the different lender groups: a $300 million synthetic lease financing and a $1.5 billion secured term loan.  Two UCC-1 financing statements were filed in connection with the synthetic lease and a separate UCC-1 was filed with respect to the term loan.. All three financing statements identified JPMorgan, as agent, as the secured party.

In 2008, General Motors told its counsel on the synthetic lease to prepare documents to unwind the synthetic lease.  The partner at GM’s counsel delegated some of the work to an associate who further delegated the UCC work to a paralegal.  The paralegal ran a UCC search that revealed the 3 UCC-1 filings and the paralegal prepared termination statements for all three filings including one for the term loan that was not being repaid.  JPMorgan and its counsel reviewed the draft termination statements, did not catch the mistake and authorized the filing.  All three terminations were filed and no one noticed the term loan’s financing statement was terminated until after GM filed for bankruptcy protection.

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