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Court of Appeal rules on the use of LMA recommended form documentation by lenders

News / / Court of Appeal rules on the use of LMA recommended form documentation by lenders

The defendants had sought to rely on section 3 of the Unfair Contract Terms Act 1977 (the Act) to exclude the familiar loan facility agreement term that all payments to be made by an Obligor under the Finance Documents shall be calculated and be made without (and free and clear of any deduction for) set-off or counterclaim on the grounds that limiting or excluding liability for breach of contract or claiming to render no contractual performance or one differing substantially from that reasonably expected must pass the reasonableness test to be validnbsp In order for section 3 of the Act to apply, a party must deal on its written standard terms of businessnbsp Unfortunately the Act does not define or explain what is meant by deals hellip on the other's written standard terms of business and instead the meaning has developed through case lawnbspnbsp Consequently, the main question that the Court of Appeal was asked to address in the appeal in African Export-Import Bank and others v Shebah Exploration Production Company Ltd and others 2017 EWCA Civ 845 was the meaning to be attributed to deals hellip on the other's written standard terms of businessIt was not in dispute that the terms of the LMA syndicated loan facility were effective under the general law of contract to exclude the defendants' rights of set-offBackground to the Loan Market Association's collection of recommended form documentation and its use in practiceThe Loan Market Association (the LMA) was established in 1996 and the investment grade loan facility agreement was first released in 1999nbsp The aim in publishing a recommended form was to promote greater efficiency in both the primary and secondary loan markets and to avoid hampering the development of the secondary loan market due to a range of differences in loan terms from the use of a wide variety of underlying loan agreements The LMA's collection of recommended form documentation has become very extensivenbsp For example it now includes, amongst others, the leveraged finance facilities suite of documents (ostensibly for borrowers with a lower credit rating) and real estate finance and pre-export finance specific documentationnbsp But notably the LMA does not yet produce aviation, ship or other asset finance documentation The investment grade loan agreement is designed for plain vanilla' loans to UK corporates and is drafted with reference to a number of particular assumptions about the transactions that it will be used for (for example that the borrower is incorporated in England and has a good credit rating) It is available as a single currency or multi-currency term andor revolving facility or facilities The investment grade agreement is also widely used in different circumstances, including loans which are not plain vanilla' andor where the borrower and other obligors are not UK corporatesnbsp Sometimes, where the borrower has a credit rating lower than investment grade, the investment grade documents may be used in preference to the leverage finance documents as the former are often perceived as being for loans for general corporate purposes and the latter for loans that are part of an acquisition financingnbsp In such circumstances, it is important to appreciate that although the LMA recommended form may have been used as the basis for documentation, substantive amendments will often have been madenbsp Covenants, representations and warranties, for example, may have been made more onerousnbsp In particular, care should be taken with any documentation that is described as LMA compliant'nbsp Only a thorough review will reveal the extent of the compliancenbsp Additionally borrowers should also note the LMA's message, given on the front of the template investment grade loan agreement, that the document is in a non-binding, recommended form and its intention is to be used as a starting point for negotiation onlynbsp Borrowers may find that first drafts of the loan documentation (typically prepared by counsel to the lenders) differ markedly from the recommended form, sometimes with reasonable justificationnbspnbsp Many ship and aviation finance agreements will be based on the lenders' law firm's template for ship or aircraft loansnbsp Most of these precedents are likely to be based on the LMA recommended form of loan documents, not least because the LMA recommended documents are a set of relatively lender-friendly documents with which banks are familiarnbsp Not only do ship and aircraft loan agreements often borrow heavily from the LMA recommended forms, but lessees may also find that aircraft finance and operating leases contain certain provisions based on the LMA's precedentsnbsp An example of this, for those familiar with export credit transactions, is the suite of Harmonised Documents' used by the European export credit agencies to support Airbus delivery financingsnbsp Although it may be based on the LMA agreements, a ship or aircraft loan agreement is very unlikely to follow the LMA's documents in every respect nbspTo take a particular example, readers familiar with our Aviation Bulletin will be aware of the LMA's recent revisions in connection with IFRS 16 and definition of Financial Indebtednessnbspnbsp This definition is used for the purposes of the negative pledge and the cross-default clausenbsp The exclusion of operating leases from this definition, either through the reference to finance and capital leases in the drafting prior to 14 June 2016 or the optional exclusion in the new drafting, is customary and a generally agreed position in the arena of plain vanilla' corporate loans to investment grade borrowersnbsp However, in aircraft financings this limb of the LMA definition is usually amended to specifically capture long term operating leases within the definition of Financial Indebtednessnbsp Given the prevalence of long term or synthetic' operating leases as a method of financing the acquisition of aircraft, it is understandable that lenders in the aviation finance market should seek to amend the definition of Financial Indebtedness accordinglyDetailed negotiationsIn dismissing the appeal in African Export-Import Bank v Shebah Exploration Production Company Ltd the Court of Appeal held that there were in fact detailed negotiations between the parties which made it impossible to say that either the LMA model form was, or the terms ultimately agreed were, the claimants' standard terms of businessnbsp In this connection it was specifically noted that nbspThe initial draft of the loan facility agreement was sent by the lenders to the borrower on 1 April 2011 nbspOn 13 May 2011 lawyers for the borrower sent a 'redline' re-draft (heavily marked with their proposed revisions) to the lenders, copied to their clientnbsp The borrower's lawyers stated that although they had had input from the borrower, the draft remained subject to further comments or amendments from the borrower nbspOn 16 May 2011 the borrower's lawyers referred in an email to the fact that they were discussing the draft with the lenders' lawyers the following day nbspOn 24 May 2011 the lenders sent a revised draft to the borrower and the borrower's lawyers, the covering email referring to the fact that one change which was not incorporated in the draft was that a floating rate of interest would be retained, but that there would be a side-letter setting a ceiling at 10 as per the parties' last call nbspOn 25 May 2011 the borrower's lawyers referred in an email to the fact that the account structure for the facility (which had been added by them in the 13 May draft) had been agreed commerciallynbsp The borrower's lawyers added that a further revised draft of the Facility Agreement would be circulated once they had the borrower's further instructionsAs the final version of the original Facility Agreement was not executed until 1 July 2011, the judge at first instance had concluded that, although the details were not in evidence, there must have been further discussions leading to that final versionGiving the leading judgment, it is interesting to note the particular conclusions of Longmore LJ thatOne only has to look at the 'redline' re-draft referred to in paragraph 16(ii) of the judgment to see how substantial the negotiation was Of course, some of the proposed amendments were not agreed but many were the three amendments particularly mentioned by the judge in paragraph 25(iii) of his judgment were undoubtedly of some considerable substanceSignificantly, LongmorenbspLJ went on to add that there is no requirement that negotiations must relate to the exclusion terms of the contract, if the Act is not to applyFurther decisions In addition to the decision outlined above, the Court of Appeal also made two further decisions which will provide comfort to banks and financiers dealing with a defaulting obligor seeking to assert that the written terms of a loan facility agreement constitute that bank or financier's standard termsFirst, a party wishing to assert that a deal is on standard business terms must produce some evidence that it is likely to have been so donenbsp The Court went on to state that It cannot be right that any defaulting borrower can just assert that business is being done on standard terms and that the lender then has to disclose the terms of other (how many other) transactions he has entered into before he is entitled to summary judgmentSecondly, the complexity (or otherwise) of the concept of standard business terms has no relevance to the question of summary judgment nbspOnce it is decided what the terms of the contract were, it is not difficult to decide whether the terms being relied on were standard business terms of the relevant partyA note of cautionIt should be noted that the Court declined to answer the banks' counsel's submission that a contract based on an LMA form can never be made on standard business terms because there is always a need for adoption and amendmentnbsp LongmorenbspLJ then went on to make the following obiter dictum statement I suspect that the submission goes too far if a lender habitually used a particular LMA form and refused to countenance any amendment, it would be difficult to say that the deal was not done on that lender's standard business terms But a final decision on that question does not have to be made in this case and can safely be left for another dayReaders familiar with structured finance and the syndicated loan market may raise a wry smile at this statementnbsp A lender that habitually uses a particular LMA form and refuses to countenance any amendment proposed by the obligors is unlikely to form a successful commercial relationship with its customersnbsp Only the poorest of credits are likely to acquiesce to such a position out of sheer necessitynbsp The vast majority of borrowers in any event conditioned by the global financial crisis to recognise the importance of diversifying their providers of debt will take their business elsewherenbsp However, in other areas of banking and finance for example high street business banking and loan products for SMEs a non-negotiable set of standard business terms is a real possibilitynbsp Export credit financings, where the ECA in question may be obliged to offer commoditised documents to all borrowers due tonbsppolicy or public and administrative law reasons, may find the question of whether they are using documents made on standard business terms open to more debateConclusionSome readers may well wonder how a negotiated loan facility agreement based on the form of syndicated facility agreement, recommended by the LMA could ever be held to be a syndicate of lenders' standard terms of business and form a point at issue of two court casesnbsp However, the Court of Appeal's judgment will be of interest to lenders and borrowers using LMA or other standard form finance documentsnbsp While standard form documents that are negotiated by lawyers are unlikely to constitute written standard terms for the purposes of the Act, each case should be considered on its own particular set of factsnbsp Financiers using commoditised documents may have reason to be more cautious than those that regard standard form documents as merely a starting point and are prepared to entertain a negotiation of their terms with the borrower nbsp

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