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Changes to the Loan Syndications and Trading Association Documentation

Client Advisory

June 24, 2013

On Friday, June 28, 2013, the Loan Syndications and Trading Association (the “LSTA”) will publish new versions of the forms of Par Trade Confirmation, Distressed Trade Confirmation, Purchase and Sale Agreement[1] and Collateral Annex. The primary changes to the trading documentation will establish, by default, that a buyer post collateral when participating in unfunded revolvers and provide new formulas for calculating the Collateral Shortfall in the Collateral Annex. These changes reflect an effort by market participants to standardize the terms in order to shorten the negotiation period and more accurately reflect current market practices.

Par and Distressed Trade Confirmations

The new form of Par and Distressed Trade Confirmations and accompanying Standard Terms and Conditions will require that a buyer post collateral when participating in unfunded revolvers unless the parties agree otherwise. There will be a check the box option in the form so that the parties can indicate whether collateral will be required and if so, whether the collateral account will be established with the seller or a third-party custodian. If no options are selected by the parties, the default will be that collateral will be required for a participation with an unfunded revolver.

The definition of LIBOR[2] which is used in calculating delayed compensation will be revised to facilitate the anticipated replacement of the British Banking Association (the “BBA”).[3] The current definition of “LIBO Rate” states that LIBOR is the 1-month LIBOR as set and published by the BBA. The revised definition will provide for a successor to the BBA if it is no longer publishing LIBOR.

The new form of Par Trade Confirmation will also provide ERISA[4] representations for both the seller and buyer substantially similar to the language which currently appears in the distressed trading documentation.

Collateral Annex

The most substantial changes made by the LSTA will be to the form of Collateral Annex which is used when parties settle a trade by participation and the buyer is required to post collateral for any unfunded portion of a revolving loan.[5]

Posting Collateral

By default, the new form of Trade Confirmations will require collateral when the parties settle by participation unless otherwise agreed. The Trade Confirmations will provide check the box options allowing parties to indicate whether collateral will be posted with the seller or a third-party custodian. Additionally, where parties agree to establish a collateral account with the seller, the new Collateral Annex provides an option for the collateral to be held in a segregated account which would ensure such collateral will be used only for the obligations set forth in the Collateral Annex. In either case (third-party custodianship or segregation of collateral), the option must be agreed to between the parties at the time of trade. If it is not explicitly agreed to at the time of trade, any required collateral will be posted to a general collateral account with the seller. The Collateral Annex requires that a seller who manages a collateral account provide the buyer with monthly accounting statements.

Eligible Collateral

The Collateral Annex will add the term “Other Eligible Collateral” to allow parties to define what may be posted as collateral. The current form of Collateral Annex allows only U.S. dollars or treasury securities and agency notes to be deposited as collateral.

Collateral Shortfall

The most significant change to the Collateral Annex will be the new method of calculating the “Collateral Shortfall.” Collateral Shortfall is the amount of collateral that must be transferred to the collateral account by the buyer from time to time. The formula for determining the Collateral Shortfall will now allow the parties to elect whether or not to ascribe value to the funded participation itself. If the parties ascribe value to the funded participation, this amount will fluctuate to reflect changes in the value depending on the price at which the loan is trading in the market.

Schedule 1 to the Collateral Annex will provide a check the box option of two formulas for determining the Collateral Shortfall. The first formula defines Collateral Shortfall as the pre-negotiated percentage of any unfunded portion of the participation minus any collateral which might already be in the collateral account. The second and more complex formula defines Collateral Shortfall as the sum of (i) the pre-negotiated percentage of any unfunded portion of the participation and (ii) the amount of such unfunded portion multiplied by 100% minus the market value of the participation to the extent that (i) and (ii) exceed the sum of (x) collateral in the collateral account and (y) the market value of the funded portion of the participation with haircut. In mathematical terms, the calculation is illustrated as follows:

CS =
(UC x
RCP +
NA) -
(EC +
MVFP)
Collateral Shortfall
Unfunded Commitments
Required Collateral Percentage
The Required Collateral Percentage is the pre-negotiated percentage of any unfunded portion of the participation.
Netback Amount
The Netback Amount is the credit given to the buyer to compensate for the risk that, although the participation is trading at a discount, the unfunded portion may need to be funded at par. The Netback is obtained by multiplying the discount the loan is trading below par by the amount of the loan that is unfunded.
Eligible Collateral
The Eligible Collateral is the value of the collateral which might already be in the collateral account.
Market Value of Funded Participation with Haircut
The Market Value of Funded Participation with Haircut is the percentage (determined by the parties and set forth in Schedule 1 to the Collateral Annex) of the product of the market purchase rate and the outstanding amount of the funded portion of the participation.

For example:

Buyer buys from seller a participation in $10,000,000 of revolving loan commitments, of which only $2,500,000 is funded on the settlement date.  For a simplified illustration of the operation of the formula, assume in this example that the Required Collateral Percentage (RCP) is 25% and the percentage specified in Schedule 1 to determine the Market Value of Funded Participation with Haircut (MVFP) is 90%. On the settlement date, prior to any delivery of collateral by buyer to seller (i.e., when the Eligible Collateral (EC) component of the formula equals $0), the amount of collateral to be delivered by Buyer (other than the participation itself, which is subject to Seller’s security interest) would be as follows, assuming a current market price of 80%:

First Formula

CS = (UC x RCP) – (EC)

($7,500,000 x 25%) – ($0) = $1,875,000

Second Formula

CS = (UC × RCP + NA) – (EC + MVFP)

($7,500,000 x 25% + [20% x $7,500,000]) – ($0 + [90% x ($2,500,000 x 80%)]) = CS

($1,875,000 + $1,500,000) – (90% x $2,000,000) = CS

$3,375,000 - $1,800,000 = $1,575,000

Conclusion

The changes to the forms of Par Trade Confirmation, Distressed Trade Confirmation, Purchase and Sale Agreement and Collateral Annex should provide market participants with standardized terms which will reduce the extent of negotiation and shorten the amount of time between the trade date and settlement date. Loan market participants should familiarize themselves with the new forms of trading documentation to ensure at the time of trade that any relevant terms are discussed and accurately reflect the intent of the parties.


For more information concerning the matters discussed in this publication, please contact the author, Ann M. Batchelor (212-238-8694, batchelor@clm.com), or your regular CL&M attorney.

 

Endnotes


[1] There are no substantive changes to the form of Purchase and Sale Agreement, but the document will be republished so the date is consistent with the Trade Confirmations.

[2] LIBOR is the average interbank interest rate at which a selection of banks on the London money market are prepared to lend to one another.  LIBOR comes in 15 maturities (from overnight to 12 months) and in 10 different currencies.  The official LIBOR interest rates are announced once per working day at around 11:45 a.m. (London time) by the BBA.

[3] The BBA will discontinue LIBOR fixing for a number of currencies and maturities.

[4] “ERISA” means the Employee Retirement Income Security Act of 1974, as amended, and the rules and regulations promulgated under it.

[5] The LSTA last published the form of Collateral Annex on February 6, 2008.



Carter Ledyard & Milburn LLP uses Client Advisories to inform clients and other interested parties of noteworthy issues, decisions and legislation which may affect them or their businesses. A Client Advisory does not constitute legal advice or an opinion. This document was not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein. © 2017 Carter Ledyard & Milburn LLP.
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