The UK market regulator has recently re-emphasised that LIBOR will not be sustainable beyond 2021, and that market participants need to have robust fallback arrangements in place. While good progress (led by the derivatives market) has been made on developing risk-free rates as the basis for alternatives, some of these rates have yet to be published, and the market is still some way from agreeing on the calculation of suitable credit spread adjustments. It is therefore not currently possible to provide for specific alternative rates in loan agreements. In light of this, there are a number of considerations to be aware of in respect of new and existing loan agreements which reference LIBOR and are due to mature after 2021.
Existing LMA fallback provisions
The recommended forms of syndicated loan agreement of the Loan Market Association (LMA) provide a waterfall of fallbacks in the event a reference rate ceases to be available. However, these are at best temporary measures, and are not suitable for replacing a discontinued rate in the longer term. Under the current provisions, if the fallbacks fail, the lenders (as a whole) and the borrower will need to negotiate and agree on an alternative rate.
Amendments to loan agreements
Under the LMA's standard amendments clause, amending a facility agreement to replace LIBOR with a risk-free rate would likely be an all lender decision, as this is likely to have the effect of reducing the interest payable on the loan. In addition, since 2014 the LMA has published an optional rider, allowing for replacement of one screen rate with another with Majority Lender consent only, and this is relatively frequently used in syndicated loan agreements. However, this language was introduced in response to some of the challenges arising from the discontinuation of certain LIBOR currencies, and is not likely to be sufficient to cover a discontinuation of LIBOR generally.
As a result, in December 2018 the LMA published a revised form of replacement screen rate clause; if included in a loan agreement, this clause allows amendments relating to benchmark rates to be made with an even lower lender consent threshold, and for related adjustments (including to the Margin) to be made at the same time, giving greater flexibility for any necessary amendments.
Related hedging arrangements
Following the discontinuation of LIBOR, there could be a mismatch in payments under a loan agreement and any associated interest hedging, as...