What does the referendum result mean for borrowers and lenders?

What are the immediate issues for existing loan agreements following the EU referendum result? David Varnham, partner and head of banking at Mills & Reeve, considers the next steps for borrowers and lenders and the implications for existing and future financial documentation.

In light of the outcome of the EU referendum, what will be the immediate concerns of borrowers and lenders in relation to their existing financing arrangements?

The referendum was a non-binding advisory referendum which does not have any legal effect. While politically it would be difficult for the current British government to disregard it, as a legal matter nothing has changed as a result of the referendum, and until the UK formally leaves, it will remain a full member of the EU with its people and businesses continuing to have full access to the single market.

It is unlikely that the result of the referendum of itself will have any immediate impact on Loan Market Association (LMA)-based loan agreements. While Mills & Reeve was aware in the run-up to the referendum of ‘Brexit clauses’ being discussed in the context of loan agreements (ie clauses requiring early repayment of loans or margin increases if the UK voted to leave), we have not heard of any such clauses actually being included in loan agreements.

As such, in the absence of explicit provisions specifying what will happen in the event of a vote to leave, parties should consider the general terms of their financing arrangements carefully to establish what impact (if any) the vote will have.

What should borrowers and lenders be thinking about in relation to their existing finance documentation?

Borrowers

The current economic and political uncertainty is likely to have an impact on borrowers in the short to medium-term. The impact might be positive for some and negative for others. Borrowers should take early action to review the terms of their loan agreements to anticipate any identifiable breaches of loan covenants. Particular focus should be paid to any financial covenants, as these are likely to be provisions which are triggered first if the current political and economic uncertainty has a negative impact on business. If borrowers haven’t done so already, they should do their analysis and seek advice. Look again at whether your contingency plans are adequate. As always, having early discussions with lenders about possible bumps in the road will most likely lead to better outcomes, but borrowers need to be careful not to prejudice their legal position by having those early discussions. If in doubt, I would recommend seeking legal advice.

Lenders

In the absence of explicit ‘Brexit clauses’, it is unlikely that the referendum result will have had an immediate impact on lender documentation. If lenders have information/monitoring covenants, they may now want to evaluate them to understand what (if any) information they can seek from borrowers over the coming months and years.

How is finance documentation entered into after the referendum likely to be affected by the referendum result?

It remains to be seen how parties will respond to the Brexit referendum in their finance documentation negotiations—the LMA has established a Brexit working party to monitor and analyse developments. However, until Brexit actually occurs, it is not expected that material changes will be made to the mechanical architecture of LMA-based loan documentation. There are two reasons for this:

  • until Brexit actually occurs, the UK remains a full member of the EU and the status quo continues, and
  • until the loan market has a reasonable idea of how any Brexit would be structured it will be very difficult to accurately and effectively anticipate any documentation changes that might be required

However, for loans with tenors which extend beyond the envisaged timetable for the UK’s exit from the EU (ie potentially between two to three years), we might see parties seek to anticipate some of the commercial ramifications of Brexit in their documentation. For example, we might see strong borrowers seeking to specifically exclude Brexit from any material adverse change event of default in order to put beyond doubt that the lender cannot claim that a material adverse change occurs upon eventual Brexit.

On cross-border transactions, borrowers may also be concerned about the standard illegality prepayment event in the event that Brexit results in it being illegal for the lender to maintain the loan to the borrower (ie if it becomes illegal for a UK-based bank to lend to an EU-based borrower). Ordinarily in these circumstances, the borrower would need to prepay the loan in full, but borrowers may now want to have the right to substitute themselves for another borrower in their group (perhaps in the same jurisdiction as the lender) to prevent an early repayment.

For borrowers based in the UK where there might be concerns about the domestic economy, we might find that banks wish to maintain higher levels of covenant control (both financial and credit maintenance), and have enhanced reporting and monitoring rights in order to identify any credit issues sooner rather than later.

Interviewed by Duncan Wood.

The views expressed by our Legal Analysis interviewees are not necessarily those of the proprietor.

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