FOCUS ON: Sterling LIBOR Transition – Five questions about the Q3 2020 milestones

• United Kingdom

• Banking and finance

30-09-2020

1.    What are the milestones?

The Working Group on Sterling Risk-Free Reference Rates (the “Working Group”) has recommended that:

• by the end of Q3 2020 (ie 30 September 2020) lenders should be in a position to offer non-LIBOR linked products to their customers; and
• after the end of Q3 2020, LIBOR referencing loan agreements (both new and re-financed) should include clear contractual arrangements to facilitate conversion to SONIA or other alternative rates ahead of the end of 2021.

This briefing focuses on the second of those two milestones and the implications for facility agreements.

2.    What are clear contractual arrangements to facilitate conversion?

The Working Group has offered guidance that this milestone can be met by including in a facility agreement either:

• pre-agreed conversion terms; or
• an agreed process for renegotiation.

3.    What are pre-agreed conversion terms?

Pre-agreed conversion terms are commonly referred to as a ‘switch’ mechanism. This is where the loan will switch from LIBOR to an alternative rate on the occurrence of a trigger event or on a set date. This allows the parties to continue to use LIBOR while preparing practically for a switch to an alternative rate. In theory the facility agreement will not require any future amendment in respect of sterling LIBOR transition (or the extent of any amendments to reflect adjustments to conventions will be significantly reduced). Other than entering into a risk-free rate or other LIBOR alternative facility agreement now, this approach provides the parties with the most certainty.

The Loan Market Association (“LMA”) has recently published an exposure draft of a multicurrency term and revolving facilities agreement incorporating rate switch provisions for review and comment by the loan market.

4.    What is an agreed process for renegotiation?

This is where the parties agree a date from which they will enter into a good faith negotiation process to agree a replacement for LIBOR (sufficiently in advance of the end of December 2021 LIBOR end date). The facility agreement will require amendment before 31 December 2021 to reflect the results of the negotiations. The LMA has published a supplement to its ‘Replacement of Screen Rate’ clause with drafting to cover this option. This approach allows parties to follow market developments before committing to a risk-free rate but it is less certain than a switch mechanic and comes with the risk that the parties won’t be able to agree terms (with the loan then potentially becoming a tough legacy loan).

There is a potential middle ground, suggested by the LMA, where the parties agree a process for renegotiation along with a term sheet setting out the terms for conversion that can be agreed – cutting down the scope of future negotiations (and minimising the risk of future negotiations being unsuccessful).

5.    What next?

Wherever possible, parties should actively transition away from LIBOR before the end of 2021. The next milestone is the end of quarter 1 2021, when the Working Group recommends that all new issuance of sterling LIBOR-referencing loan products that expire after the end of 2021 should have ceased.

Contacts

Eversheds Sutherland can support you on the full spectrum of LIBOR transition related issues ranging from large scale re-papering projects to individual queries on the impact of LIBOR transition. Eversheds Sutherland is able to draw on the expertise of Konexo (its technology-driven alternative legal services arm) and a market-leading team of partners and other legal experts in finance, regulatory, derivatives and other relevant areas, both in the UK and across the globe.

To discuss the issues raised in this briefing please speak to your usual Eversheds Sutherland Banking contact or get in touch us.