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von Holger Langer, LL.M.

Syndicated Loan Agreements I – The Syndications Process

A. Basic Structure

“Syndicated Loan” – a large number of banks lends funds for a long period to a single borrower

Legal Structure = a syndicated loan is a number of separate loans made by individual banks to the same borrower, which are subject to the same terms and conditions

  • each lending bank is obliged to lend funds to the borrower
  • each lender possesses individual rights to interest and principal from the borrower
  • borrower’s obligation to repay is owed to each syndicate bank in specified amounts (and not to any one bank)

Severality

  • Each bank will make loans up to its specified commitment
  • Each bank’s obligations are several
    • no underwriting commitment that other syndicate banks will remain solvent and will advance funds
    • no joint liability
    • similarly, agent bank does not guarantee that a bank will lend (pure agency, no personal liability for the obligations of the principal)
  • Each bank’s rights are divided rights, i.e. owed to each bank individually
    • banks can sue individually for unpaid amounts, but subject to pro rata sharing clause

Syndicate democracy

  • syndicated loan agreements usually contain provisions for decision-making by the syndicate banks
  • votes are generally measured according to the amount of the banks’ participations
  • Majorities are usually 50% or 66%
    • amendments which are generally permitted by majority
    • waivers of breaches of covenant or relaxation of covenants (e.g. negative pledge)
    • determining whether an incorrect representation or an adverse change in the financial condition is material for the purposes of the events of default
    • directing the agent bank to accelerate the loans following an event of default (agent bank may also have a discretion in emergencies to accelerate without prior decision of the banks, according to the respective clauses of the loan agreement)
    • amendments which generally not permitted by majority
    • Waiver of the conditions precedent
    • Extension of maturities
    • Reduction of the amount of payments
    • Reduction of the interest rate
    • Change of currency
      - only by unanimous decision

pro rata sharing

  • syndicate equality clause designed to share individual receipts by one bank but not the others (e.g. set-offs, proceeds of litigation, direct payment by the borrower etc.)
  • clause may allow for double dipping
    • bank sets off a certain amount against a deposit of the borrower
    • since it has received this amount in addition it must pay the amount to the agent bank for distribution under the pro rata sharing clause
    • as a result it acquires additional debt from other banks by subrogation to the extent of payments to them
    • hence the borrower remains indebted to that bank which then sets off again etc. until the deposit is used up
    • effect is as if the deposit had been charged to secure the participations of all the banks
    • however, building up of set-offs in the suspect period prior to insolvency is generally restricted in jurisdictions which allow for insolvency set-off
  • clause may also cover
    • sharing is unwound if the initial receiving bank is obliged to repay the excess payment to the borrower’s liquidator
    • litigation proceeds by a bank which individually sues the borrower may be excluded
      • however, non-exclusion will discourage unilateral action by one bank which might also be of interest to the syndicate
    • any obligation to set-off may be expressly excluded
    • sharing may be excluded if the receipt of payments is from a third party, e.g. a private guarantee given to one bank only

B. The syndications process in outline

  • the lead manager initiates the syndications process by approaching potential borrowers with a proposal for the provision of finance, which is usually contained in a “term sheet” or “offer document”
  • the term sheet will usually specify
    • the amount of the loan
    • the interest rate
    • the duration of the loan
    • the currency of the loan etc.
  • on the basis of the term sheet, the borrower will grant a “mandate” to the lead manager to organise a group of banks which will form the lending syndicate
  • since it has been held that a document containing terms and conditions but which is to be embodied in a formal written document may nevertheless constitute a complete and binding agreement (Branca v Cobarro), it is essential for the lead manager to exclude any intention to be legally bound by the term sheet
  • such an exclusion is usually inserted by the formula “subject to contract”
  • after obtaining the mandate the lead manager will usually form a small group of banks, called the managing group, who will agree in principle to lend most or sometimes all of the funds required by the borrower
  • neither the lead manager nor the banks in the managing group generally give any underwriting commitment to provide the funds required by the borrower
    • this contrasts with Eurobond issues where the managing underwriters warrant in the subscription agreement that they will procure purchasers for the bonds or will purchase the bonds themselves
  • lead manager responsible for two sets of documents
    • the loan documentation (legal documents) which will embody the final agreement between the syndicate and the borrower and the between the syndicate banks inter se
    • the information memorandum
      • contains details about the loan and information about the financial condition and business profile of the borrower (not prepared for borrowers who come to the market frequently, but only to “new” borrowers)
      • is circulated by the lead manager to prospective participants in the syndicate
      • syndicate participants may rely at least partially on the information provided in deciding to participate in the syndication
  • after the syndicate and the borrower have agreed on the form of the loan agreement the document will be formally signed by all parties
  • the bank designated as “agent bank” (usually the lead manager) will then have to certify to the syndicate that the conditions precedent have been satisfied by the borrower
  • only then, disbursement of the funds will be arranged
    • the syndicate banks transfer such amounts as they have agreed to lend to an account held with the agent bank
    • the agent bank then transfers to the borrower the amount of funds required to be disbursed under the loan agreement

C. Liability of the lead manager

I. Information memorandum

1. Potential Liability

  • Contractual liability
    • Loan agreement will usually contain a clause providing that any inaccurate or misleading information in the information memorandum will constitute an event of default
    • since it will be rather likely that the borrower is already in financial difficulties when such a misleading information comes to light, the syndicate banks will most probably look to the lead manager as the only realistic source from which to recover
  • Statutory liability – s 2(1) of the Misrepresentation Act 1967
    • on one hand it is said that the liability under s 2(1) is not one based in negligence, but since a representor can escape liability if he can prove that he had reasonable grounds for believing the representation at the time it was made, the liability can also be based in negligence
    • potential liability to the other syndicate members if the information memorandum contains inaccuracies which could have been avoided by the use of reasonable care
  • Liability in tort of negligence
    • principles laid down in Hedley Byrne & Co. Ltd v Heller & Partners Ltd
    • restated by House of Lords in Caparo Industries plc v Dickman
  • Prerequisites for liability
    1. statement which is inaccurate or failure to state a material fact which renders a statement in the information memorandum misleading
    2. reliance by the syndicate banks on the material misstatement
    3. foreseeability of financial loss caused by the misleading statement
    4. element of proximity / special relationship
      • not sufficient merely to establish that the damage based on the inaccuracy was reasonable foreseeable
      • in practice satisfied, since information memorandum is submitted to identified and named banks in the market

2. Efficacy of disclaimers in the information memorandum itself

  • Effect of disclaimers: disclaimers usually seek
    1. to deny any authorship for the information in the information memorandum
    2. to state that the lead manager has not verified any of the statements
    3. to require the recipient to verify all facts and statements
    4. to prevent responsibility for any further dissemination of the information memorandum
  • fraudulent misrepresentation
    • unlikely that a court would give effect to a disclaimer clause
  • negligent misrepresentation
    • probably sufficient to exempt lead manager from liability
    • but probably subject to Unfair Contract Terms Act 1977
      • s 3 only applies to contract terms
      • s 2, however, applies both to contract terms or notices (such as the information memorandum)
      • test of reasonableness à usually satisfied
        • sophistication of the recipients
        • access to legal and financial resources
        • ability to make an independent evaluation of the borrower
      • Applicability of Unfair Contract Terms Act
        • tort: lex loci delicti commissi
        • contract: s 27 (1) UCTA
          • proper law of the contract must be English law, independent of an express choice of law clause
          • proper law = closest and most real connection, Bonython v Commonwealth of Australia)
        • if applicable law would not be English law, Unfair Contract Terms Act could nevertheless be applied as a mandatory law or on the basis of public policy
  • Fiduciary duties towards other members of the syndicate
    • established by Court of Appeal in UBAF Ltd v European American Banking Corp
    • inappropriate in the context of an international loan agreement, since fiduciary duties usually arise where there is some element of superior skill, knowledge or bargaining power between the parties

3. Efficacy of disclaimers in contractual clauses in the loan agreement

  • Borrower usually required to give certain warranties in the loan agreement
    1. all statements do not contain untrue statements of material fact and do not omit statements of material fact necessary to make the statements not misleading
    2. borrower is not aware of any other material facts not disclosed
    3. borrower gave all estimates, forecasts and opinions in good faith on the basis of the available information
  • However, in addition express clauses necessary that require each syndicate bank to warrant
    1. that it takes the sole responsibility to verify the accuracy and adequacy of all information
    2. that each bank does not expect the lead manager to verify such information
    3. that each bank does not rely on the lead manager to provide it with information for purposes of entering into the loan agreement
  • clauses may be subject to a test of reasonableness under ss 2, 3 UCTA

II. Loan documentation

  • contractual liability
    1. for defects in the validity or enforceability of the loan agreement
    2. for the sufficiency of protection afforded to the lenders in the loan agreement
    • since lead manager is in practice negotiating the content and form of the loan agreement and, thus, also acting on behalf of the prospective members of the syndicate, ordinary principles of agency could possibly apply under which he owes a duty of due care, skill and diligence
    • However, agency principles should not apply
      • the syndicate participants are principal parties to the loan agreement; it is not entered into by the lead manager on behalf of the syndicate members
      • breach of duty problematic, when agreement contains a cross default clause, which preserves the rights of the syndicate lenders
      • even if duty of due care, skill and diligence would arise, the content of such agency or fiduciary duty might consist only of an obligation to select experienced and skilled lawyers to draft the loan agreement
  • liability in tort of negligence
    • on the basis that the lead manager owed a duty of reasonable care to prospective co-lenders when negotiating the agreement so as to ensure
      1. that it is valid and effective
      2. that it contains terms and conditions which are sufficient to protect the position of the syndicate banks
  • prerequisites, see above - usually satisfied
    • foreseeability satisfied because lead manager controls both the appointment of lawyers who draft the agreement, and to a large extent the content of the loan agreement itself
    • proximity satisfied because identity of prospective participants is known to the lead manager at the time of final negotiations
  • Disclaimer clauses probably subject to test of reasonableness under the Unfair Contract Terms Act, see above