In November 2012, the Structured and Derivative Products team of
the Jones Day Paris Office was appointed counsel of the French
Banking Federation (Fédération Bancaire
Française, or "FBF") on its project to update
the French market master agreement for over-the-counter derivatives
transactions, which it first published back in 1994 (the "FBF
Agreement").
The FBF is a professional association representing more than 390
French banks, branches or affiliates of foreign banks incorporated
in France. The FBF promotes the banking and financial services
industry in France and sets out industry positions and proposals to
official and regulatory authorities. Its mission also entails
keeping members aware of any legal or regulatory developments that
may affect their activities.
The purpose of this year's update is to draw lessons from the
financial crises and to address the new obligations imposed by the
Regulation (EU) no. 648/2012 of the European Parliament and of the
Council of July 4, 2012 on OTC derivatives, central counterparties,
and trade repositories (together with its nine regulatory and
implementing technical standards adopted by the European Commission
on December 19, 2012, "EMIR").
The updated FBF Agreement was published on June 25 with a standard
schedule, a supplemental agreement enabling the parties to a 2007
FBF Agreement to supplement it with the new provisions of the 2013
version, and EMIR schedules aimed at integrating EMIR requirements
into signed FBF Agreements in their 1994, 2001, or 2007 version.
The Structured and Derivative Products team also translated the
updated FBF Agreement into English.
This Commentary presents the main amendments made to the
FBF Agreement by the 2013 update. It should be noted that such
update addresses only the new requirements imposed by EMIR for
over-the-counter derivatives contracts not cleared by a central
counterparty. The Structured and Derivative Products team is now
closely working with the FBF to publish before the end of 2013 a
schedule adapting the FBF Agreement to the new clearing obligation
for standard derivatives contracts identified as such by the
European Securities and Market Authority.
Capitalized terms used in this Commentary, if not
otherwise defined herein and unless the context otherwise requires,
shall have the meaning ascribed to them in the FBF Agreement.
Drawing Lessons from the Financial Crisis
Major financial institutions' defaults during the financial
crisis have shown that, despite the efficiency and robustness of
the termination process provided for under the FBF Agreement, some
flexibility and clarifications could be introduced by the 2013
update.
Computation of the Settlement Amount. Various
modifications have been made to Article 8 of the FBF Agreement in
order to make the computation of the Settlement Amount easier and
more efficient in times of low market liquidity.
The New Definition of "Replacement
Value." The definition clarifies what was
already the case but had been the subject of discussions on the
market, that the Party that has obtained various market quotations
from prime market participants is free to select those of its
choice when determining the Replacement Value.
Moreover, the Party in charge of the computation may now decide to
rely instead on market data when determining the Replacement Value,
provided that such data are available on databases published by at
least two third parties and commonly used by market participants
for establishing quotations or valuations.
Such Party may also consider any loss and cost incurred in
connection with its terminating, liquidating, or re-establishing
any hedge related to one or more terminated Transaction unless the
loss or costs have already been taken into account in the
above-mentioned market data or quotations.
Finally, such definition provides for a fallback when no quotation
or market data can reasonably be obtained for the Termination Date.
The Party in charge of the computation will then determine the
Replacement Value on the basis of internal sources.
Taking Account of Liquidity Gains or Costs into the
Computation of the Settlement Amount. Article 8.1.1
of the FBF Agreement now provides that the Party in charge of the
computation shall take into account any Liquidity Gain or Cost when
determining the Settlement Amount.
"Liquidity Gains" and "Liquidity Costs" are
defined in Article 3 as the cost incurred (or the gain generated,
as the case may be) by the conclusion and execution of financing
transactions aimed at hedging the relevant Party's cash
positions resulting from the termination of the Transactions.
Implementing the New EMIR Requirements for OTC Derivatives
Contracts
Various amendments have been made to the FBF Agreement in order to
address the new requirements imposed by EMIR for over-the-counter
derivatives contracts not cleared by a central counterparty.
Conclusion of Transactions and Timely
Confirmation. Article 4.2 addresses the new EMIR
requirement relating to timely confirmation of over-the-counter
derivatives contracts not cleared by a central counterparty and
provides that the conclusion of each Transaction must be confirmed
in the format and within the deadlines imposed by applicable
regulation.
Article 1 of the standard schedule enables the Parties to
supplement such Article by providing for a negative consent, i.e.,
that, in the absence of any objection of a Party within two
Business Days following the receipt by such Party of a
Confirmation, and save for manifest error, the Parties shall be
deemed to have agreed upon the terms of the Confirmation sent by
the more diligent Party.
Representation of the Parties' Status under
EMIR. A new Article 6.2 has been incorporated in the FBF
Agreement. It contains an additional representation relating to the
Parties' Status under (i) EMIR or (ii) any other applicable
regulation imposing the clearing by a central counterparty of one
or more Transactions.
Article 7 of the standard schedule lists all the different
statuses existing under EMIR, thus enabling each Party to
represent, at the time of entering into the FBF Agreement and into
each Transaction, that it is either a financial counterparty, a
non-financial counterparty, or an exempted counterparty, etc.
Finally, Article 6.2 provides that the Parties shall inform each
other of any change affecting their Status and the reasons of such
change.
A misrepresentation or a breach under Article 6.2 does not
constitute an Event of Default, but Articles 7.2.1.3 and 7.2.2.3
(further detailed below) provide for specific remedies if the
clearing mandate is not complied with as a result of such
misrepresentation or breach.
Clearing by a Central Counterparty. Article 11.13
provides that if one or more Transactions must be cleared by a
central counterparty pursuant to applicable laws or regulations or
an agreement between the Parties, such Parties agree to the
conclusion and execution of appropriate supporting documentation in
order to continue and clear the relevant Transactions within
applicable deadlines. If the Transactions could not be cleared
within the applicable time frame, a new Change of Circumstances
(Article 7.2.1.3) enables the Parties to terminate such relevant
Transactions.
One should note that upon the occurrence of such Change of
Circumstances, the new Article 7.2.2.3 distinguishes between the
two following situations:
- If such Change of Circumstances results from one Party's failure to notify its Status or any change thereto in accordance with Article 6.2, this Party will be the only Affected Party and the other Party shall be entitled to withhold performance of its payment and Delivery obligations and terminate the sole affected Transactions; or
- If such Change of Circumstances occurs for any other reasons, then the two Parties will be deemed to be affected and as such will be entitled to withhold performance of their payment and Delivery obligations and calculate the Settlement Amount as the result of the termination of the sole affected Transactions.
Risk Mitigation Techniques. Articles 11.9 to
11.12 now provide that the Parties will comply with the
requirements imposed by EMIR relating to (i) transaction reporting,
(ii) portfolio reconciliation, compression, and dispute resolution,
(iii) marking-to-market of Transactions, and (iv) collateral
requirements.
The failure to comply with such risk mitigation techniques will
not constitute an Event of Default but may trigger the contractual
liability of the relevant Party.
Miscellaneous
Various drafting amendments and changes have also been made to the
FBF Agreement, notably relating to the following.
Scope of the FBF Agreement. The scope of the FBF
Agreement has slightly been extended by the 2013 update to all
transactions on forward financial instruments that benefit from the
French close-out and netting regime. The FBF Agreement therefore
applies not only to transactions on forward financial instruments,
as such instruments are defined in Articles L. 211-1-III and D.
211-1 A of the French Monetary and Financial Code (implementing
Directive 2004/39/EC on market in financial instruments), but also
to any other forward financial contracts not mentioned in Article
L. 211-1-III but covered by the French close-out and netting regime
and mentioned in Article L. 211-36 II of such code (see
the new definition of "Transaction").
Payment Netting. Before the 2013 update, Parties
had to elect whether or not they wanted the payment netting
provision of Article 5.3 to apply.
The new wording of such Article now provides that the Parties
agree to set off their reciprocal payment or Delivery obligations
occurring on the same day under the same Transaction and may agree
to do so for obligations falling due on the same date under a group
of Transactions.
In other words, payment netting on a transaction-by-transaction
basis will now apply by default, and the Party will only have to
elect, in Article 2 of the standard schedule, if they want payment
netting to apply on a multitransactional basis.
Assignment to a Third Party. A new paragraph has
been inserted in Article 11.4, to clarify that each Party is
free to transfer, assign, or grant as a security interest or as a
guarantee to a third Party all or any part of its claim
corresponding to the Settlement Amount, without the prior consent
of the other Party.
Representations. The FBF Agreement now provides
for a broader no-agency representation (Article 6.1.2), and the
nonreliance representation has been substantiated in order to limit
the scope of the advisory duties of a bank to its client as such
duties are currently defined by regulation and case law (Article
6.1.9).
No Hierarchy Among Events of Default. The new
version clarifies that, should one factual event or series of
circumstances occurring in respect of one Party qualify under
several Events of Default, the Non Defaulting Party can, in its
sole and absolute discretion, decide on the basis of which of such
Events of Default to terminate the master agreement, and there
should be no prevalence of one of them above the others.
As opposed to other market master agreements, the FBF Agreement
does not require that the Event of Default be continuing for it to
be the basis of a termination. The occurrence of such Event of
Default is sufficient to provide the Non Defaulting Party with the
right to terminate, unless it is deemed to have waived such right,
expressly or by continuing to perform the contract.
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.