LIBOR Discontinuance and the Derivatives Market


On July 27, the Chief Executive of the UK Financial Conduct Authority (“FCA”) announced that, after the end of 2021, the FCA would no longer use its power to persuade or compel panel banks to submit rate information used to determine the London Interbank Offered Rate, known as “LIBOR.” LIBOR serves as a benchmark rate for hundreds of trillions of dollars of securities, loans and transactions, including over-the-counter and exchange-traded derivatives.[1] The total market of financial instruments based on LIBOR is approximately $350 trillion. READ MORE

Lehman Reaches Settlement with Perpetual in Dante Case

On November 17th, Lehman Brothers Special Financing Inc. (“LBSF”) and its official unsecured creditors’ committee filed a joint motion to stay BNY Corporate Trustee Services Limited’s (“BNY”) appeal for 90 days in the “Dante” matter, pending final settlement of the dispute between LBSF and Perpetual Trustee Company Limited (“Perpetual”).

The reason for the motion was LBSF’s settlement in principal with noteholder Perpetual, an Australian trustee with noteholders of its own.  On September 20th, the United States District Court for the Southern District of New York granted to BNY leave to appeal the bankruptcy court’s January decision.  This decision had voided certain document provisions related to the Dante credit-linked note program providing for the subordination of LBSF’s rights as swap counterparty to an early termination payment when the swap counterparty or one of its close affiliates went into bankruptcy.‪  In effect, the bankruptcy court had held that these subordination provisions—which effectively flip LBSF’s right to get paid from above that of the noteholders to below that of the noteholders—constitute unenforceable ipso facto clauses under the U.S. Bankruptcy Code (the “Bankruptcy Code”) and that any action to enforce the subordination provisions would violate the automatic stay provisions of the Bankruptcy Code.  BNY holds the collateral subject to this dispute and had brought the appeal in its capacity as trustee.[1]

The motion for the stay was granted and, on November 24th, LBSF filed another motion seeking the court’s approval of a settlement with Perpetual.  If the final settlement between LBSF and Perpetual is approved by the court, it is expected that LBSF will then request that the BNY appeal be dismissed.  Such a dismissal will leave uncertainty as to the enforceability of similar flip clauses.

[1]For a detailed summary of the Dante matter, please see DMIR October 2010 and DMIR January 2010.

Lehman Bankruptcy Court Issues Decision on Dante Case

On January 25, 2010, the United States Bankruptcy Court for the Southern District of New York issued a decision in the Lehman bankruptcy case holding that provisions that subordinate a swap counterparty’s rights to payment when the swap counterparty or one of its close affiliates goes into bankruptcy are unenforceable.  These types of provisions are used in many structured finance transactions, and thus this decision may have implications for the structured finance markets and the ratings of structured finance transactions. For more information on this case and its potential impact, read the related Orrick Client Alert.

Lehman Subordination Case to Continue in U.S. Bankruptcy Court

On August 11, 2009, Judge James Peck of the Federal bankruptcy court in New York denied a motion by a unit of The Bank of New York Mellon Corp. (“BNYM”) to dismiss an action by a subsidiary of Lehman Brothers Holdings Inc. relating to the priority of claims in connection with credit-linked notes (“CLNs”) issued by a program known as “Dante”. The Lehman subsidiary had entered into credit default swaps relating to the CLNs and claims that it is owed $70 million in connection with their early termination. The BNYM unit acted as trustee under the Dante program.

The terms of many securitization transactions, including the Dante program, provide for the subordination of early termination payments owed to a swap provider upon that provider’s default, including its bankruptcy. Lehman has challenged this standard provision, arguing that it is contrary to the U.S. Bankruptcy Code (the “Code”) ipso facto (or “anti-deprivation”) provisions. Contract provisions that trigger a termination upon the bankruptcy of a party are known as ipso facto clauses.

The High Court in England last month confirmed the Dante subordination provisions under English law, which governs the terms of the transaction. However, Lehman sought a temporary stay under the English proceedings pending its claim in the U.S. Bankruptcy Court.

The outcome of this case will have implications on securitization transactions if Lehman prevails. Specifically, a determination that the contractual provisions that provide for the subordination of Lehman in the event of its insolvency constitute ipso facto provisions that are not enforceable under the Code would effectively re-write the priorities of payment “waterfalls” in many securitization indentures and/or security agreements. As a result, early termination payments owed to bankrupt swap counterparties in such circumstances would receive priority over other payments, possibly including those to noteholders. Such a decision also could result in rating agencies revisiting ratings on notes, which could result in downgrades. A decision is expected from the bankruptcy court in September.