Banks have become very active in recent months selling off loans in large portfolio sales. For example, it has been widely publicised that RBS and its subsidiary Ulster Bank are currently offering for sale many loans in large portfolio sales as part of RBS’s “Capital Resolution” project to work out its non-performing loan book. Lloyds Banking Group have also been particularly active in selling off loans over the past few years.
Risks, concerns and considerations for borrowers
Borrowers often (with justification) have the following concerns:
- Their loan will be sold to a third party with whom they have no existing commercial relationship, and with whom they would not have chosen to have a lender/borrower relationship.
- The interests/strategy of the purchaser in dealing with the loan may be very different from that of the original lender. The objectives of funds investing in distressed debt vary; sometimes they are interested in investing in loans for the long term but often their objective is to make a profit by taking enforcement action and possession of the property that is providing security for the loan and selling it on (or holding the property rather than the loan as an investment). The purchaser may not be in the business of lending money at all, but in acquiring assets.
- Some borrowers may be able to agree a restructuring at a profit for the purchaser which in fact provides a better outcome than they had been able to negotiate with their initial lender. Whether the purchaser is open to such an offer will depend on its commercial objective in purchasing the loans and if the borrower has the means/funding to agree terms that provide an acceptable return to the purchaser compared to other prospects for profit from the deal, either in the short term or long term.
- Where the loan being sold is in default (whether by way of missed payments, breach of convenants or other facility terms) or becomes in default after the sale, the purchaser will usually have the same rights as the selling bank under the terms of the loan facility. Typically this will include the ability to demand repayment of the loan, put the borrower into administration, send receivers in to sell off property, increase interest payments and fees and generally insist on renegotiating less favourable terms with the borrower.
- Loans are usually purchased with the benefit of all the security available to the lending bank, which will include any cross company or personal guarantees as well as debentures or charges over shareholdings in associated companies. In groups of companies, enforcement action or insolvency proceedings taken against one company by a new lender may have serious knock on implications for other group entities due to common provisions allowing other lenders to the group to treat this as an event of default triggering rights to call their own loans and/or apply increased rates of interest/fees.
Therefore, the prospect of such a loan sale is naturally worrying for borrowers who may have spent several years negotiating through a difficult financial climate and investing time and money in their banking relationship to try to keep their business afloat pending a recovery in property values and trading conditions and/or in progressing associated projects to enhance the value of property (e.g. ongoing complex and expensive planning applications). That investment may well be lost if their loan is purchased by a fund intent on enforcement action which will wipe out any prospect of recovery of the borrower’s initial equity invested in the project/business.
So what can concerned borrowers do to protect their position in circumstances where they are notified (or suspect) that their bank is intending to sell their loan to a third party?
1. Know your rights. Check your loan agreement/facility letter– can the bank sell the loan to whomever and howsoever it wants? Or are there restrictions/conditions the bank must comply with?
The most common contract terms relating to the transfer/sale of loans (usually referred to as “assignment” and/or “novation”) are as follows:
- Bank can transfer without any restriction or requirement to notify the borrower in advance;
- Bank must notify the borrower of its intention to transfer the loan;
- Bank is required to consult the borrower in advance of any transfer;
- Bank can only transfer to certain types of purchaser e.g. only to another financial institution providing loan facilities as part of its business;
- Borrower’s consent is required to any transfer. (The terms may or may or may not say that such consent cannot be unreasonably withheld).
The transfer of a loan by novation may have different effects to those transferred by assignment. The main difference between the two procedures is that whereas an assignment transfers all the seller’s rights under the loan to the buyer, a novation transfers both the seller’s rights and obligations (such as an obligation to provide further lending to the borrower). A novation involves the creation of an entirely new loan which, if the loan is secured, has the effect of discharging the existing security so new security will need to be taken (which can affect its priority and vulnerability on an insolvency).
As a novation creates a new loan, all the parties are required to consent to it (while an assignment only requires the signature of seller and buyer) subject to any restrictions created by terms in the facility agreements which give the borrower a say. From a borrower’s point of view, the facility agreement and all security documents should be checked to see whether they contain a clause whereby consent to a novation has already been given in advance.
Another means by which a bank can transfer its interest in the loan is by way of sub-contracting or sub-participation rather than assignment or novation. Whereas assignment and novation both involve the initial lender transferring its interest outright so that it no longer has any involvement in the lender/borrower relationship, sub-contracting and sub-participation leave the initial loan agreement in place between the lender and borrower but bring in the third party by way of a contractual arrangement with the lender requiring it to pass on the economic benefit of the loan to the third party (i.e. interest payments or capital repayments whether on a performing basis or recovered by way of enforcement over security).
This means that the borrower still deals with the initial bank, but the financial benefit of the loan has been sold on to someone else and the lender becomes a conduit for payments between the borrower and the third party. Usually the purchaser of the economic interest will have negotiated terms giving it the ability to control the lender’s management of the loan account and to require the bank to take enforcement action if it appears necessary to protect the financial interest it has acquired. It is less common for restrictions to be placed on the Bank’s right to sub-contract/offer sub-participation in loans but the wording of the loan agreement should be checked carefully in each case because such restrictions do exist.
2. Can the benefit of any associated security or finance documents be transferred without the consent of the borrower or any guarantors?
Borrowers should check the terms of all security documents and associated contracts, such as interest rate hedging products, to see whether these can be sold on with the loan without the borrowers’ consent or if there are any restrictions on them.
3. Make sure that any ongoing disputes or agreements reached with the bank about amendments to terms on your facility, or waivers of the bank’s rights are recorded in writing.
Consider sending a letter reminding the bank of all the points of which you would want a potential purchaser to be aware. This makes it less likely that any disputes will arise later between you and the new lender because the bank will have to consider carefully what representations it makes and how to answer the potential purchaser’s query to avoid allegations that the bank has misled the purchaser if a dispute arises later.
4. What confidential information about your business has the bank disclosed to potential purchasers with the sale memorandum or in the data room? Does the loan agreement allow the bank to disclose such information?
The bank will not be allowed to disclose the confidential information it holds about your business and/or personal financial circumstances unless the loan agreement provides for this or you have subsequently agreed to it. A borrower may not be able to control who views information provided by to bank, to potential purchasers in a “data room” (to enable the purchaser to carry out “due diligence” before deciding whether to purchase) so you could find that information has been passed to other parties which may assist them in their own dealings with you, if you happen to have a commercial relationship with them unconnected to the loan being sold (e.g. the potential purchasers may include lenders with whom you have other loans, or even competitors or parties with which you are in dispute about unconnected matters).
5. Be vigilant. A bank planning a loan sale in the short to medium term may check in advance for terms which restrict its ability to do so and try to achieve (in the course of other discussions/restructuring) amendments to your facility terms to remove any restrictions or other clauses which might present obstacles to selling the loan.
It is strongly advisable to take legal advice on any proposed changes to facility terms, even if they appear straightforward or if you think you know what they are intended to do, because there may be implications or consequences not apparent to non-lawyers which could be important in the context of your rights in the event the bank decides to sell your loan.
6. Apply to court for an order restraining the bank from selling your loan
If, having considered the points above, you believe that the bank is selling your loan in breach of the provisions in your loan agreement or there is a risk of disclosure of confidential information in the process that could damage your business, then consider applying to Court for an order restraining the bank from either selling your loan without complying with the required procedure or from wrongfully disclosing your confidential information. This usually takes the form of making an urgent application for an injunction.
An application for an injunction must be made very quickly if it is to have practical effect (no point bolting the stable door after the horse has bolted!), and also because the Court will take into account how promptly the application has been made when deciding whether to grant the application.
The application is complex and specialist legal advice is strongly recommended. This should be obtained as quickly as possible after you realise that there is a problem with a proposed loan sale.
An injunction, if awarded, usually provides interim relief to “preserve the status quo” pending a full hearing to decide whether the bank is able to sell the loan or not or any other points issue between the parties.
You will need to show (amongst other things) that you have a good arguable case that your position is correct and that damages would not be an adequate remedy should the bank proceed to sell your loan and you made a claim thereafter for losses suffered.
It is likely that you will also have to provide an undertaking to compensate the bank for any losses suffered if, at a full hearing of your case, you are ultimately unsuccessful in establishing that the bank was in the wrong. Depending on the circumstances these could be substantial.
Injunctions can be a useful tool in these circumstances, but they must be approached with caution and with thorough specialist legal advice so that you have a full understanding of their pros and cons and of the other options that may be available to you.