Since the outcome of the Brexit referendum was announced, corporates and financers have been trying to maintain their commercial relationships and forge new ones, while anticipating the impact of Brexit on their business. In this article, PwC's Dipti Hunter and Kirsty O'Connor consider the potential impact of the UK's exit from the European Union on contractual documents, in particular loan facilities, bearing in mind that it appears that the UK will no longer subject to the jurisdiction of the Court of Justice of the European Union ("CJEU") or a signatory to the Brussels Regulations.
Short term impact
It is worth noting that Brexit (by that in this article we mean ceasing to be a member of the EU) is yet to happen. So far there has not been a wave of Brexit related banking and finance litigation, which indicates that parties are taking a pragmatic approach. Nevertheless, businesses should note the following:
- The Loan Market Association, International Swaps and Derivatives Association and Loan Syndications and Trading Association have all issued statements confirming that Brexit will have no immediate impact on such facilities;
- Subject to any Brexit clauses, the interpretation of English law contracts should continue as before;
- Existing increased costs clauses already contemplate making the lender whole for a variety of increased regulatory costs, which include future costs associated with Brexit (assuming they occur as a result of a change in law or its interpretation, administration or application); and
- Any deterioration in a borrower's financial performance arising out of instability following Brexit will be covered by existing protections in the facility documents, like the financial covenants.
When the UK actually ceases to be a member of the EU, depending on the impact on a particular borrower's business and the terms of the relevant clause, economic circumstances may occur that raise arguments about whether there is a material adverse change. For example, it is more likely that material adverse change will occur where the relevant clause refers to future events, such as a borrower's "prospects".
Medium term impact
Many predict a period of uncertainty and possibly short period of volatility in the markets following Brexit, and so we may see a downturn in the level of financial activity for a time after the initial exit. We can also anticipate a nervousness for underwriting new deals until the market settles down.
However, in terms of changes to new loan documentation in this period, the following issues could arise:
- We may see a greater appetite from lenders to impose conservative covenants in contractual documents to prevent borrowers from taking too many risks, as well as shorter terms for pricing and tenor, so lenders have more agility to respond to difficult markets.
- The introduction of additional requirements for currency hedging, in order to protect the financing party against any currency fluctuations during the exit and transition period.
- During the transition period, lenders are unlikely to accept much deviation from standard events of default and mandatory prepayment events where Brexit has a material adverse effect on the Borrower's ability to perform under the documents. The definitions of events of default and mandatory prepayment events will have to be carefully drafted if a borrower is in the position to negotiate any deviation from the standard terms.
- We may see lenders being less pragmatic around events of default and more likely to call in any financing at an earlier time than previously would have been the case, particularly if there are concerns around the difficulties of enforcing any UK judgments within the EU.
It remains to be seen how the UK Government will manage transposing key financial regulations into domestic legislation, including the current EU sanctions, Market Abuse Regulation, Financial Collateral Regulations, and passporting under MiFID II. But it does appear that all of these may be subject to regulatory divergence as we move forward.
Choice of law and jurisdiction clauses
England is often the venue of choice for businesses to litigate high-value international disputes, particularly relating to complex financial transactions. However, corporates should bear in mind that the UK is currently party to an EU-wide regime for jurisdiction, service in civil and commercial matters, and enforcement. If they cease to apply to the UK after Brexit, there is a question mark as to how easy it will be to enforce a judgment from an English court within the EU.
Some may want to explore whether it would be more advantageous to utilise the new French bi-lingual Commercial Court, the Netherlands Commercial Court, or elect the courts of the Republic of Ireland to hear disputes. An Irish judgment, for example, may be seen to be far more useful in terms of enforcement and appeal to the CJEU, and advice will need to be sought on whether different courts are more advantageous.
Dipti Hunter and Kirsty O'Connor are solicitors in the Commercial Disputes team at PwC, specialising in cross-border litigation and arbitration.