Most of the City are well aware of the ratings downgrades imposed on a number of UK clearing and other banks earlier this year, indeed a number of those reading this note will work in affected institutions. As well as the fairly obvious economic impact of the downgrades, there is potentially a more subtle consequence for loan documentation where one of the downgraded banks has taken on the role of "Account Bank" for the purposes of the accounts provisions. When we talk about "accounts provisions" in this context, we are referring to the normal series of accounts established, in particular in real estate financings, to handle a borrower's cashflows originating from the financed asset (the accounts provisions usually being found around Clause 17 in an LMA template real estate facility agreement). Usually, as a minimum, general and reserve accounts will be created, over which the borrower has varying degrees of control and from which the lender will transfer funds to service principal and interest payments due from the borrower, before the remaining funds are swept into a general account. This could be in an acquisition, leveraged or real estate finance context for example.
It is almost always the case that the defined "Accounts" must be held with a specific bank and that this bank cannot be changed without the consent of the Lender (or Agent in a syndicated financing). Many facility agreements take this a step further and provide that, alongside a designated "Account Bank", that Account Bank must also have a certain credit rating (usually found in a definition of "requisite rating", "rating criteria" or similar), which invariably links the required rating to the ratings attributed by Moody's, S&P and Fitch. This is the point at which a link between ratings downgrades and the operation of accounts provisions becomes clear. The question then becomes: what impact will an Account Bank failing to maintain a requisite rating have on the financing?
In answering the above question, the first place to start is the definition of requisite rating (or similar). These definitions work in different ways. Some specify that a downgrade of the Account Bank below the threshold rating by any one of the rating agencies specified will trigger a failure to meet the requirements of the definition. More usually, a 'two out of three' approach is adopted i.e. any two of three specified ratings agencies must downgrade the Account Bank below the threshold rating before the definition is tripped and the Account Bank can no longer be said to have a requisite rating. If it can be established that the Account Bank indeed no longer meets the requisite rating criteria, then the next step is to examine how the accounts provisions deal with this.
Any failure of the Account Bank to meet the requisite rating usually triggers a right on the part of the Lenders or Agent to see the Accounts moved to another bank and usually also constitutes a technical default, depending on how the events of default provisions are structured. The reality is of course that, whilst our experience suggests that the recent downgrades are potentially tripping these types of provisions, the downgrades are not, on their own, affecting the credit of Account Banks in a manner that is going to raise a material credit risk for lenders (in respect of funds held in the Accounts) which demands a movement of accounts or aggressive action to accelerate a facility. However, it is arguably prudent for institutions to be aware of how their facility documentation operates as regards Account Banks and the concept of requisite rating, so that the issue of a formal waiver, where a default does arise as a function of the Requisite Rating not being maintained, can be considered. Short of a formal waiver some form of written communication with the Borrower acknowledging the position would likely suffice.
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.
