Thoughts from 2018 for structuring trade and related ......More balanced view on RMs ... Computer Security Incident Response Team (CSIRT) and a competent national NIS authority ›

Thoughts from 2018 for structuring trade and related financings- avoiding pitfalls and getting deals done

Presentation by Geoffrey Wynne, Partner Sullivan & Worcester UK LLP 13 December 2018 New Broad Street House 35 New Broad Street London EC2M 1NH

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What this talk will cover

What happened in 2018?

› Law and regulations

› Politics (and geopolitics)

› What effect on documents?

IFRS9 and other accounting changes coming to a balance sheet near you!

Growth of Fintech

› Problems and solutions

Apply the above to certain transaction types

What about 2019?

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What happened to the legal landscape in 2018? Regulators challenged us

› Continued discussion on Basel III (Basel IV)

› PRA paper on unfunded CRM

› EBA responses

Anti money laundering

› 5th and 6th AML directives

› Compliance makes trade finance harder?

GDPR

› Any trade impact?

Network and Information Systems (NIS)

› Effect on Fintech products in particular?

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Where are we with Basel III?

Commodity Finance transactions can and are being done

Little help from the Regulators

Work within what we have

Keep pressure on Regulators for better treatment

Basel III continuation to “Basel IV”

More bad news

Do Regulators understand commodity finance?

› Not really!

Regulators also do not seem to understand credit risk mitigation

› BAFIN draft report – adverse to CRM practices

› Objection by German banks – now being reconsidered

› Basel IV itself

Need to continue pressure for trade finance 4

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Credit risk mitigation under CRR

Reprise

Use of CRM to reduce exposure value

› Reduces capital required

Before it recognises the effect of credit protection …, a firm must have conducted sufficient legal review confirming that … credit protection arrangements are legally effective and enforceable in all relevant jurisdictions. The firm must re-conduct such review as necessary to ensure continuing enforceability and effectiveness

Requirement for legal opinion under Article 194 CRR

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Structuring issues in trade and commodity finance for CRM Banks may use various techniques which reduce their exposure to

individual customers and transactions. The taking of guarantees and security to support the obligations of the primary borrower pre-dates capital adequacy rules by many centuries

Basel III recognises the value of security and guarantees as a form of credit risk mitigation. But if such techniques are to be effective in a capital adequacy context, then it must be clear that the relevant arrangement is legally robust

Necessary to consider both the qualifying forms of credit risk mitigation and the legal certainty tests which must be met if the desired capital treatment is to be achieved

Basel III offers two broad forms of credit mitigation techniques. The essential distinction lies between “funded” and “unfunded” credit protection

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Prudential Regulation Authority’s proposed changes to their Supervisory Statement (SS) 17/13 “Credit risk mitigation”

On 16 February 2018, the Prudential Regulation Authority published its consultation paper (CP 6/18) setting out proposed updates to its Supervisory Statement on Credit Risk Mitigation

CP 6/18 sought to clarify the PRA’s expectations regarding the eligibility of guarantees as unfunded credit protection under the Capital Requirements Regulation (575/2013)

The proposals raised a number of serious concerns and, in many cases, may not reflect how banks, insurers, export credit agencies and legal counsel have either applied, or understood, the relevant rules up until now

There was widespread concern amongst financial institutions, insurers and exporters that the proposed clarification will render ineligible CRMs which are widely used to support trade and export finance

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PRA Proposals Guarantee must be legally effective and enforceable in all relevant

jurisdictions

› What is the issue?

Guarantee must be “…. clearly defined and incontrovertible …” › Clear and unambiguous › Releases from liability?

Guarantee must be “…. without any clauses that will render the guarantee ineligible for CRM …” › Possibility of cancellation › Fraud as example

“Timeliness” › Time for payment › Waiting periods

Guarantee not to have exclusions of certain types of payments and limited coverage › E.g. Nuclear exclusion › No right to value guarantee

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Industry Responses to PRA Proposals

Strong opposition from many trade bodies

› Individual responses as well

All key points for PRA paper addressed

› Strong arguments countering PRA position

› Suggestions to “leave as is”

Consultation Period has now ended and results awaited

In the meantime…..”business as usual”?

What if PRA proceeds with proposals?

› Unlikely?

Why worry?

› Need to refer to their position UNTIL they revert

Things may change – but what?

› A change for the better? 9

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EBA Report on Credit Risk Mitigation (CRM) Framework

Report released on 19 March 2018

More “balanced” view on CRMs

Confirms credit insurance can be used

Defines guarantee by looking at its content

Has not attempted to expand CRM requirements within CRR

This could be key to the growth of commodity trade deals

So business as usual for CRM?

› You could “tweak” your documents to assist

› For example on timeliness

› Better wording in insurance policies?

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Anti-money laundering and counter terrorist financing – 5MLD and 6MLD

More provisions to further strengthen rules on anti-money laundering and counter terrorist financing to be introduced (following 4MLD already implemented)

Objective to enhance transparency, to improve the prevention of money laundering, to cut off terrorist financing and prevent tax avoidance.

5th Anti-Money Laundering Directive, aims at:

> Increasing transparency on who owns companies and trusts by establishing beneficial ownership registers

> Preventing risks associated with the use of virtual currencies for terrorist financing and limiting the use of pre-paid cards

> Improving the safeguards for financial transactions to and from high-risk third countries

> Enhancing the access of Financial Intelligence Units to information, including centralised bank account registers

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6AML Directive

EU proposed further measures as it believes that the current measures are neither comprehensive nor coherent. These further measures are 6AMLD

Adopted on 11 October 2018

› EU member states have until 31 December 2020 to bring into force

New rules strengthen the financial crime regime

Is trade finance particularly vulnerable to anti-money laundering?

Can you control your risk?

› Can you show it?

What more should you put into your documents?

› Show due diligence

› Show obligations on counterparties

› Do not be persuaded to avoid putting wording in key documents

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General Data Protection Regulation Compliance – all companies must comply with the GDPR, express clause in

certain documents stating compliance with the GDPR and its provisions (e.g. warranty that any personal data is accurate and relevant for the purposes and has been lawfully and fairly processed or a link to the relevant party’s website where a customer can view the GDPR policy in full)

Co-operation – clause expressly agreeing parties will notify/co-operate/provide information to the other party in relation to data protection as reasonable required by the other party to meet its data protection obligations

Data analytics firm, AggregateIQ, issued with the first formal notice (July 2018) under the GDPR by the UK’s Information Commissioner’s Office. The accusation made was for processing customers’ data “for purposes which they would not have expected”

Conclusion - this will only be relevant to the extent that personal data is being transferred and processed in your transactions. In many transactions between corporate entities, there may be no personal data and therefore the GDPR is not relevant

› Consider carefully what, and if, you put provisions into your TF documentation

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Network and Information Systems (NIS) Directive Adopted by the European Parliament on 6 July 2016 and entered into force in

August 2016. Member States have had to transpose the Directive into their national laws as of 9 May 2018 and identify operators of essential services by 9 November 2018

The NIS Directive provides legal measures to increase the overall level of cybersecurity in the EU by ensuring, among other things:

› Member States’ preparedness by requiring them to be appropriately equipped, e.g. via a Computer Security Incident Response Team (CSIRT) and a competent national NIS authority

› Cooperation among all the Member States, by setting up a cooperation group, in order to support and facilitate strategic cooperation and the exchange of information among Member States

“NIS Toolkit” – given the impending deadlines, the Commission adopted on 13 September 2017 a “Communication” that aims at supporting Member States in their efforts to implement the Directive swiftly and coherently across the EU

This provides practical information to Member States, e.g. by presenting best practices from the Member States and by providing explanation and interpretation of specific provisions of the Directive to clarify how it should work in practice.

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Network and Information Systems – now in force The Network and Information Systems Regulations 2018 (NIS Regulations)

The NIS Directive was transposed into UK national law through the NIS Regulations, which came into force in the UK on 10 May 2018

The NIS Directive and the UK’s NIS Regulations are an attempt by lawmakers to address some of the risks posed to individuals and the wider economy that can arise from security incidents affecting key networks and information systems. The NIS Regulations therefore impose obligations on in-scope organisations to implement certain levels of security and to make notifications in the event of security incidents

The NIS Regulations apply to "operators of essential services" (OES) and "digital service providers" (DSP)

› OES: The Regulations set out minimum threshold criteria for organisations in these sectors to assess whether they are in-scope. The criteria include factors such as: (i) the number of customers being provided with services and (ii) the output of the service provider

› DSP: An organisation providing one or more of these services will be in-scope provided it satisfies the following criteria: (i) it is headquartered in the UK or has nominated a representative established in the UK; and (ii) it is not a "micro" or "small enterprise" (i.e. it has fewer than 50 staff and a turnover of less than €10 million per year)

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Network and Information Systems – now in force The Network and Information Systems Regulations 2018 (NIS Regulations) - continued

Main Obligations under Regulations

› The requirement for an organisation to notify the fact that it is in-scope for the NIS Regulations to the relevant regulator (deadline for OES to notify regulator was 10 August 2018 and for DPS to notify the Information Commissioner was 1 November 2018)

› The requirement to implement appropriate and proportionate measures to manage risks posed to network and information systems and to prevent, and minimise the impact of, incidents affecting the security of the network and information systems

› The requirement to notify the relevant regulator of the occurrence of incidents (including security breaches) which have an impact on the delivery of its services

Consequences of non-compliance

› Fines up to a maximum of £17 million, the level of which will be determined with reference to the nature of the non-compliance

› Regulators also have the power to:

Conduct inspections - to assess if the organisation has met its obligations under the NIS Regulations;

Serve information notices - to require an organisation to provide information to enable the regulator to assess the organisation's compliance with the NIS Regulations; and

Serve enforcement notices - which shall set out the steps that the organisation must take to rectify identified failures by the organisation

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Network and Information Systems – now in force

The Network and Information Systems Regulations 2018 (NIS Regulations) and documentation

Be aware of this

If it applies to you - show risk is being managed

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Sanctions minefield

Increasing use of sanctions as political tool

› Remember what to look for

› Remember general issues like dual use goods

Can you cope?

› Show compliance and comply

EU not always helpful….

› Blocking regulations and Iran

Documentation can cope

› Take it calmly

› Have the systems

› Do you need to change the documents?

› Approaches to due diligence

› LMA recent publication on EU blocking

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Article 55 (bail-in) – latest position What is it?

The position:

› Currently there is no legal requirement for English law contracts to incorporate a Bail-In Clause as required by article 55 BRRD. It is not certain to what extent Brexit will impact the contractual recognition of Bail-in. Upon the UK’s withdrawal from the EU, English law will likely become a non-EEA law. This means contracts governed by English law will potentially come in-scope for BRRD article 55 with the requirement that they include a Bail-In Clause

› If, as is expected, a post-Brexit UK continues to recognise the write-down and conversion powers of the EU national regulators, this would very likely obviate the need to include a Bail-In Clause. Indeed, market practice has so far been not to include a Bail-In Clause in facility agreements in light of Brexit. However there is no guarantee that remaining EU member states would take the same view

› Markets are also waiting for news of any updates to the BRRD (e.g. a potential BRRD ‘II’). A proposal to amend BRRD article 55 began progressing through the EU legislative process in November 2016 and is listed as a priority for 2018 – it is under active consideration by the relevant European Parliament committee

› Still wait and see?

› Consider what to do with documentation not governed by English law – foreign law security documents

› Can you still take the view no need to do anything?

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IFRS 9 and more

IFRS 9

› Accounting treatment but a worry?

› A new look at CRM

› Some advantages in achieving derecognition of assets

› Banking book and Trading book

› Wait for the ITFA paper!

IFRS 16 - leases

› Treatment of finance leases and operating leases

› Take a look at your financial covenants

IFRS 17 – insurance contracts

› Not an issue until 2020

› Recognition of insurance finance income and expenses

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Fintech – what do we mean?

Evolution or revolution?

Evolution

› Conducting processes more efficiently

Revolution

› Complete change in how things are done

Are we at evolution only?

› If so, what are the legal issues?

› Has the law caught up?

› Does it need to yet?

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Purpose of Fintech

Executing things faster

Overall cost reduction for transactions

Lower risk of duplicate financing

Lower risk of loss/manipulation of documents

But also new things

› Here is where issues arise

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Some legal issues in Fintech

Current – are e-documents valid under UK law? – Concept of delivery; security documentation, issues under local law for multi-jurisdictional deals

Fixed or fixable

Future

› Solving legal issues

› Smart contracts

› Governing law; disputes

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Legal developments in the Fintech space

None?!

› Do we need more?

Law Commission

› Consultation by reference to electronic execution of documents

› A bit of clarification still needed?

ICC paper on e bills of lading

› Conclusion by reference to them not being documents of title

Technical issues can be solved in documentation

› Everyone joins the same “club”

› The parties can then agree their legal position

› Can systems talk to each other?

Where will we get to with smart contracts?

› Where are we now?

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Trade Debt again!

There is an advantage in receivables financing of “stretching” payment dates

The treatment of trade debt - update

The original “true trade” debate

› What is true trade debt – determined by reference to how it arose

› Debt incurred for purchase of assets in course of trading would be trade debt

Why is the nature of true trade debt debated?

Abengoa and the mood of Moody’s

› Reverse factoring has debt-like features

The case of Carillion

› Focus on auditors?

› Focus on stopping long term trade debt

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Trade debt as finance debt – the arguments Not just balance sheet question – legal v accounting treatment

Auditors need to appreciate effect

› What do lenders think?

Why should holder of “debt” (invoice) determine what sort of debt it is?

What problems › Requirement to do trade debt transactions only › What about insurers? › What about rescheduling? › What about liquidation?

What could be affected › All supply chain finance? › All forfaiting transactions?

Work arounds? › Make sure variations and payment period are in the original invoice/payment

obligation › Look at useful life of asset in receivable

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How to do participations?

The new BAFT MPA

New clause order

› More logical

Definitions updated and tidied up

› New definitions to reflect some structural changes

It is now multiparty

› Concept of Master Party

› Multi branch

› Affiliates can sign offer or acceptance

Creates separate agreement between those parties incorporating terms of Master Agreement

Optionality removed

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A Key Change

Grantor has become Seller

› Consistent with NY law BAFT

› More importantly no longer debtor/creditor

› BUT instead …

Transfer of ownership rights

› Transfer by way of equitable assignment (where legally possible)

› Used for Funded Participations only

› Works under English law

› Clarification clause to show intention to transfer

Reflects what the Drafting Group (and the market) required

› Place beneficial interest in underlying transaction beyond reach of Seller’s creditors

Remember concept of Elevation

› Provision for legal transfer 28

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What about the fraud risk?

No separate fraud clause

Adequately dealt with elsewhere

› Seller has obligation to examine documents

› Seller’s obligation to administer the transaction

If Seller breaches above and there is fraud, then Participant has recourse

If Seller in compliance, risk is shared

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Conclusions on MPA

Hopefully easier to use

Up to date, clarifies issues, facilitates transactions

Need to move to it?

No need immediately

Both versions will run in parallel

Advantages in using the new one

Participations are a good way to share risk in all sorts of transactions

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Receivables Financings

Perhaps the greatest changes

More being done electronically

› Use of platforms

› Are all problems solved?

› Cover all the issues in the documents

Interesting structuring

› Non notified assignments

› Not using assignment structure at all

› Seller as collection agent

What about recourse?

Back to true sale arguments

Note foreign law issues

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Smart Contracts in Trade

Where are we now?

Sales of commodities

› Make it work by agreement (terms and conditions)

Trade Finance transactions

› More challenging

› Can we get there

› Watch this space!

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So what about the documents?

Some general thoughts

Getting closer to worrying about LIBOR

› Not required for short term financing – yet

Keep documentation structures the same?

› Any more due diligence clauses?

› What about sanctions clauses?

Worth taking a look at your standard forms

› Are they outdated/up to date?

› Consider our recent case law updates

› Interesting points on changing documents for example

Signing instructions in an electronic world

› The Mercury case on deeds

› Can we relax?

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What more about documents?

Have documents that reflect the transaction

Do not make assumptions that you can fit a square peg into a round hole

› There is a difference between a loan and a contingent obligation!

› Committed or not?

› Make it clear what is agreed

Standard forms tend to be longer than necessary

› Better to be tailor made?

› Will transaction bear the cost?

“He would say that, wouldn’t he!”

Still a time away from machine learning

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And 2019…..

Transactions

› More of the same or

› More but different or

› Less

Plenty of opportunities

What about Brexit?

Concentrate on documents

› But different media

Use physical documents for complex structure

Move to smart contracts for the standard ones – in time

Respond to the challenges

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Geoffrey L Wynne Partner Geoffrey Wynne is head of Sullivan & Worcester’s London office and also head of its Trade & Export Finance Group. He has extensive experience in banking and finance, specifically trade and structured trade and commodity finance. He also advises on corporate and international finance, asset and project finance, syndicated lending, equipment leasing and workouts and financing restructuring.

Geoff is one of the leading trade finance lawyers and has advised extensively many of the major trade finance banks, multilateral financers and companies around the world on trade and commodity transactions in virtually every emerging market including CIS, Far East, India, Africa and Latin America. He has worked on many structured trade transactions covering such diverse commodities as oil, nickel, steel, tobacco, cocoa and coffee. He has worked on warehouse financings in many jurisdictions and advised on how to structure involving warehouse operators and collateral managers. He has also advised on ownership structures and repos for commodities and receivables financings.

Geoff sits on the editorial boards of a number of publications and is a regular contributor and speaker at conferences. He is also the editor of and contributor to The Practitioner’s Guide to Trade and Commodity Finance published by Sweet & Maxwell and A Guide to Receivables Finance, a special report from TFR published by Ark.

Geoff has recently been recognized as the only UK lawyer included in the Trade Finance section of the UK Legal 500's all new UK 'Hall of Fame.' Trade & Forfaiting Review (TFR) honoured Geoff with the TFR Fellowship Award in its 2017 TFR Excellence Awards.

Sullivan & Worcester Tower 42 25 Old Broad Street London EC2N 1HQ

T +44 (0)20 7448 1001 F +44 (0)20 7900 3472 [email protected]

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Awards & Recognition TFR: “Best Law Firm in Trade Finance”

Trade & Forfaiting Review (TFR) named Sullivan & Worcester "Best Law Firm in Trade Finance" in its 2014, 2015 and 2016 TFR Excellence Awards.

Global Trade Review: "Best Trade Finance Law Firm"

Global Trade Review (GTR) named Sullivan & Worcester "Best Trade Finance Law Firm" in the GTR Leaders in Trade Awards 2016 and 2015.

Sullivan & Worcester also advised on two ‘Deal of the Year Awards’ in the GTR Leaders in Trade Awards 2016.

The Legal 500 UK, 2017

Sullivan & Worcester is ranked in Tier 1 for Trade Finance by The Legal 500 UK, 2017.

Partners Geoffrey Wynne, Simon Cook and Mark Norris are listed as Leading Lawyers for Trade Finance by The Legal 500 UK, 2017.

Sullivan & Worcester is also ranked for Commercial Litigation by The Legal 500 UK, 2017. The Legal 500 UK’s all new UK “Hall of Fame”

Geoffrey Wynne has been recognised as the only UK lawyer included in the Trade Finance section of the Legal 500’s all new UK “Hall of Fame.”

TFR Fellowship Award 2017

Trade & Forfaiting Review (TFR) honoured Geoffrey Wynne with the TFR Fellowship Award in its 2017 TFR Excellence Awards.

Chambers UK, 2018

Chambers UK, 2018 ranks Sullivan & Worcester in its Commodities: Trade Finance (UK-wide) listing.

Partners Geoffrey Wynne and Simon Cook are Ranked Lawyers in Tier 1 and Tier 2 respectively by Chambers UK, 2018.

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Breakfast seminar dates for 2019

Thursday 24 January

Thursday 28 February

Thursday 21 March

Thursday 25 April

Thursday 23 May

Thursday 20 June

Thursday 18 July

NO DATE IN AUGUST

Thursday 19 September

Thursday 17 October

Thursday 28 November

Thursday 19 December

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www.sandw.com

Offices

Boston Sullivan & Worcester LLP One Post Office Square Boston, MA 02109 Tel: 617 338 2800 Fax: 617 338 2880

London Sullivan & Worcester UK LLP Tower 42 25 Old Broad Street London EC2N 1HQ Tel: +44 (0)20 7448 1000 Fax: +44 (0)20 7900 3472

New York Sullivan & Worcester LLP 1633 Broadway New York, NY 10019 Tel: 212 660 3000 Fax: 212 660 3001

Washington, D.C. Sullivan & Worcester LLP 1666 K Street, NW Washington, DC 20006 Tel: 202 775 1200 Fax: 202 293 2275

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© 2018 Sullivan & Worcester

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