Following our article from last month, we continue with our
discussion on hedging in real estate financing transactions by
discussing the frequently negotiated tension points between the
facility agreement and the Hedging Agreement.
Structural points to consider
Conflicts between documents. The Hedge
Counterparty will start its negotiation from the expectation that
the ISDA Master Agreement, Schedule and confirmation that govern
its relationship with the Borrower shall prevail. We therefore need
to consider the extent to which the provisions of the facility
agreement can override those of the Hedging Agreement.
- There will be some general provisions agreed in the facility
agreement (such as governing law, tax credits or duty to mitigate)
which the Hedge Counterparty would not necessarily want to follow
with respect to its Hedging Agreement.
- Separately, the definitions of Finance Party and Finance
Documents will exclude, in many circumstances, the Hedge
Counterparty and the Hedging Agreement, i.e., the Hedge
Counterparty would not necessarily have voting rights under the
- The Hedge Counterparty will also consider and restrict the
adverse actions that the Borrower agrees to under the facility
documents, e.g., allowing the release of the security,
amendments to the waterfall – and the Hedge Counterparty will
negotiate that it has to be given sufficient notice of any such
proposed changes and that its consent should be obtained before the
Borrower can agree to any adverse changes.
Security. The Hedge Counterparty would
aim to share the control over the security arrangements and their
enforcement right with the senior lenders. They will also ensure
that any security documents cover the Hedge Counterparty as a
secured finance party and cover all payments under the swap as
Priorities of Payment. The Hedge
Counterparty will want to rank either pari passu with or
senior to the senior lenders. Therefore, the Hedge Counterparty
will review the waterfalls to ensure that principal and
interest-type payments are only ever applied in accordance with the
agreed order of priority and that no other leakage takes place.
Prepayment. The Hedge Counterparty
will incur costs associated with the swaps if partial or full
prepayment of the loans occurs. The Hedge Counterparty will
therefore negotiate (i) having advance notice of any prepayment,
probably in addition to being the recipient of all the transaction
reports, with (ii) the calculations being made by the Hedge
Counterparty on its side of the market and (iii) having the right
to get paid, under the waterfalls, on the date that the repayment
funds are applied.
Interest. Both the Hedge Counterparty
and the senior lenders will consider if there are mismatches in the
calculation of the applicable interest rate benchmarks, including
the business day conventions, day count fractions, and the
hierarchy of fallback provisions.
Ratings. Some deals may attempt to
anticipate rating requirements associated with any potential
securitisation and to write their swaps accordingly with a vast
array of rating-agency-required ISDA modifications, as well as
rating triggers and tightly-regulated routes to cure drops in the
Hedge Counterparty’s ratings. The Hedge Counterparty is likely
to resist deviations from its “corporate”-style form that
anticipate a securitisation.
The content of this article is intended to provide a general
guide to the subject matter. Specialist advice should be sought
about your specific circumstances.