The journey for London Interbank Offered Rate (LIBOR) has continued to unfold since our previous update. As the termination of publication of LIBOR for all sterling, euro, Swiss franc and Japanese yen settings and the 1-week and 2-month US dollar settings on December 31st, 2021 draws near, lenders are transitioning their loan agreements using LIBOR by switching to alternative near risk-free rates. With less than a month remaining until sterling LIBOR ceases, the consequences of the transition on existing loan agreements, and new loan agreements in the period up to the deadline and beyond, require careful consideration.
Take action now on loan terms expiring 2022 onwards
If you haven’t done this already, your existing loan agreements with loan terms expiring from 2022 onwards should be reviewed to understand whether adequate provisions are in place for calculating interest from January 1st, 2022:
Could the fallback rate provided by the loan agreement be used to calculate interest for the remainder of the loan term? Should the fallback rate provided by a loan agreement be unsuitable, or no fallback rate be set out under a loan agreement, it is crucial to approach amendment of that loan agreement with several considerations in mind. If the loan in question is syndicated, then the degree of consent required for amendment from the syndicate banks must be considered. Amending mezzanine loans may be subject to restrictions as the senior lender’s consent will be required under an intercreditor agreement. In such a situation, it is important to engage openly with the senior lender to agree mutually satisfactory wording.
The selection of the replacement rate itself requires some negotiation – does the loan agreement specify whether this is the responsibility of the lender (or agent in a syndicate) or the borrower, or both? Regardless, open engagement and agreement are preferable given that changes to interest payments will be of great significance to all parties.
Transitioning between benchmark rates also carries many incidental implications for banks, as benchmark rates form an integral part of risk management and valuation processes.
‘Synthetic’ LIBOR for 2022
The Financial Conduct Authority (FCA) confirmed that, in order to avoid disruption to legacy contracts, it will require the LIBOR benchmark administrator to publish, for the duration of 2022, certain sterling and Japanese yen LIBOR settings calculated under a ‘synthetic’ methodology. The FCA consider this to be fair approximations of what panel bank LIBOR might have looked like were it to have been continued.
While this option will be available for some existing agreements, it will not be available for any new transactions and it will not be provided indefinitely. A long-term view to transition should therefore be maintained, regardless of whether synthetic LIBOR is used in the short-term.
If you have any questions in relation to your loan documentation and how it may be affected by the LIBOR transition, please get in touch with our Real Estate Finance team.