The International Comparative Legal Guide To: Lending & Secured

The International Comparative Legal Guide to: Lending & Secured Finance 2018

6th Edition

allenovery.com ICLG The International Comparative Legal Guide to: Lending & Secured Finance 2018 6th Edition A practical cross-border insight into lending and secured finance

Published by Global Legal Group, with contributions from:

Advokatfirmaet CLP DA Holland & Knight LLP Nixon Peabody LLP Ali Budiardjo, Nugroho, Reksodiputro HSA Advocates Orrick Herrington & Sutcliffe LLP Allen & Overy LLP HSBC Pestalozzi Attorneys at Law Ltd Anderson Mori & Tomotsune IKT Law Firm Pinheiro Neto Advogados Asia Pacific Loan Market Association (APLMA) Jadek & Pensa PLMJ BPSS Attorneys at Law JPM Jankovic Popovic Mitic Proskauer Rose LLP Cadwalader, Wickersham & Taft LLP Kabraji & Talibuddin Rodner, Martínez & Asociados Carey Olsen King & Wood Mallesons Sardelas Liarikos Petsa Law Firm Carey Laga Shearman & Sterling LLP Cordero & Cordero Abogados Latham & Watkins LLP Skadden, Arps, Slate, Meagher & Flom LLP Criales & Urcullo Lee and Li, Attorneys-at-Law Škubla & Partneri s.r.o. Cuatrecasas Lloreda Camacho & Co. SZA Schilling, Zutt & Anschütz Davis Polk & Wardwell LLP Loan Market Association Rechtsanwaltsgesellschaft mbH Debevoise & Plimpton LLP Loan Syndications and Trading Association Trofin & Asociații Dechert LLP Macesic & Partners LLC TTA – Sociedade de Advogados Dillon Eustace Maples and Calder Unicase Law Firm Drew & Napier LLC Marval, O’Farrell & Mairal Wakefield Quin Limited E & G Economides LLC McMillan LLP White & Case LLP Fellner Wratzfeld & Partners Milbank, Tweed, Hadley & McCloy LLP Wildgen Ferraiuoli LLC Montel&Manciet Advocats Willkie Farr & Gallagher LLP Freshfields Bruckhaus Deringer LLP Moore & Van Allen PLLC Fried, Frank, Harris, Shriver & Jacobson LLP Morgan, Lewis & Bockius LLP Gabinete Legal Angola Advogados Morrison & Foerster LLP Gonzalez Calvillo, S.C. Nielsen Nørager Law Firm LLP The International Comparative Legal Guide to: Lending & Secured Finance 2018

Editorial Chapters: 1 Loan Syndications and Trading: An Overview of the Syndicated Loan Market – Bridget Marsh & Theodore Basta, Loan Syndications and Trading Association 1 2 Loan Market Association – An Overview – Nigel Houghton, Loan Market Association 6 3 Asia Pacific Loan Market Association – An Overview – Katy Chan, Contributing Editor Asia Pacific Loan Market Association (APLMA) 11 Thomas Mellor, Morgan, Lewis & Bockius LLP Sales Director General Chapters: Florjan Osmani 4 An Introduction to Legal Risk and Structuring Cross-Border Lending Transactions – Account Director Thomas Mellor & Marcus Marsh, Morgan, Lewis & Bockius LLP 15 Oliver Smith Sales Support Manager 5 Global Trends in the Leveraged Loan Market in 2017 – Joshua W. Thompson & Caroline Leeds Ruby, Toni Hayward Shearman & Sterling LLP 20 Senior Editors 6 Avoiding Traps When Documenting Make-Whole Premiums for Term Loans – Meyer C. Dworkin & Caroline Collingwood, Samantha Hait, Davis Polk & Wardwell LLP 26 Suzie Levy 7 Commercial Lending in a Changing Regulatory Environment: 2018 and Beyond – Chief Operating Officer Dror Levy Bill Satchell & Sara Lenet, Allen & Overy LLP 31 Group Consulting Editor 8 Acquisition Financing in the United States: 2018… Continued Growth – Geoffrey Peck & Alan Falach Mark Wojciechowski, Morrison & Foerster LLP 38 Publisher 9 A Comparative Overview of Transatlantic Intercreditor Agreements – Lauren Hanrahan & Rory Smith Suhrud Mehta, Milbank, Tweed, Hadley & McCloy LLP 43 Published by Global Legal Group Ltd. 10 A Comparison of Key Provisions in U.S. and European Leveraged Loan Agreements – 59 Tanner Street Sarah M. Ward & Mark L. Darley, Skadden, Arps, Slate, Meagher & Flom LLP 50 London SE1 3PL, UK Tel: +44 20 7367 0720 11 The Global Subscription Credit Facility and Fund Finance Markets – Key Trends and Forecasts – Fax: +44 20 7407 5255 Michael C. Mascia & Wesley A. Misson, Cadwalader, Wickersham & Taft LLP 61 Email: [email protected] URL: www.glgroup.co.uk 12 Recent Developments in U.S. Term Loan B – Denise Ryan & David Almroth, GLG Cover Design Freshfields Bruckhaus Deringer LLP 64 F&F Studio Design 13 The Growth of European Covenant Lite – James Chesterman & Jane Summers, Latham & Watkins LLP 70 GLG Cover Image Source iStockphoto 14 Yankee Loans and Cross-Border Loans – Recent Developments – Alan Rockwell & Judah Frogel, Allen & Overy LLP 73 Printed by Stephens & George 15 Debt Retirement in Leveraged Financings – David A. Brittenham & Scott B. Selinger, Print Group April 2018 Debevoise & Plimpton LLP 82 16 Analysis and Update on the Continuing Evolution of Terms in Private Credit Transactions – Copyright © 2018 Global Legal Group Ltd. Sandra Lee Montgomery & Benjamin E. Rubin, Proskauer Rose LLP 88 All rights reserved No photocopying 17 Know Your Client: Adopting a Holistic Approach to Law Firm Representation – Kelli Keenan & Shafiq Perry, HSBC 95 ISBN 978-1-912509-02-7 ISSN 2050-9847 18 Law of Astana International Financial Centre: Key Considerations – Colby Jenkins, Moore & Van Allen PLLC & Saniya Perzadayeva, Unicase Law Firm 99 Strategic Partners 19 Trade Finance on the Blockchain: 2018 Update – Josias Dewey, Holland & Knight LLP 102 20 Trends in the Expanding Global Private Credit Market: What to Expect for 2018 and Beyond – Jeff Norton & Scott Zimmerman, Dechert LLP 108 21 Replacing LIBOR: the Countdown to 2022 – Alexandra Margolis & Richard Langan, Nixon Peabody LLP 112 22 Investment Grade Acquisition Financing Commitments – Julian S.H. Chung & Stewart A. Kagan, Fried, Frank, Harris, Shriver & Jacobson LLP 119 PEFC Certified 23 – This product is Acquisition Finance in Latin America: Navigating Diverse Legal Complexities in the Region from sustainably managed forests and Sabrena Silver & Carlos Viana, White & Case LLP 124 controlled sources

PEFC/16-33-254 www.pefc.org 24 The Mid-Market and Beyond – Mark Fine & Sebastian FitzGerald, Willkie Farr & Gallagher LLP 130

Continued Overleaf

Further copies of this book and others in the series can be ordered from the publisher. Please call +44 20 7367 0720

Disclaimer This publication is for general information purposes only. It does not purport to provide comprehensive full legal or other advice. Global Legal Group Ltd. and the contributors accept no responsibility for losses that may arise from reliance upon information contained in this publication. This publication is intended to give an indication of legal issues upon which you may need advice. Full legal advice should be taken from a qualified professional when dealing with specific situations.

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Country Question and Answer Chapters:

25 Andorra Montel&Manciet Advocats: Maïtena Manciet Fouchier & Liliana Ranaldi González 134 26 Angola Gabinete Legal Angola Advogados / PLMJ: Bruno Xavier de Pina & João Bravo da Costa 140 27 Argentina Marval, O’Farrell & Mairal: Juan M. Diehl Moreno & Diego A. Chighizola 147 28 Australia King & Wood Mallesons: Yuen-Yee Cho & Elizabeth Hundt Russell 156 29 Austria Fellner Wratzfeld & Partners: Markus Fellner & Florian Kranebitter 165 30 Belgium Laga: Werner Van Lembergen & Laurent Godts 175 31 Bermuda Wakefield Quin Limited: Erik L. Gotfredsen & Jemima Fearnside 181 32 Bolivia Criales & Urcullo: Andrea Mariah Urcullo Pereira & Daniel Mariaca Alvarez 189 33 Brazil Pinheiro Neto Advogados: Ricardo Simões Russo & Leonardo Baptista Rodrigues Cruz 196 34 British Virgin Islands Maples and Calder: Michael Gagie & Matthew Gilbert 205 35 Canada McMillan LLP: Jeff Rogers & Don Waters 212 36 Cayman Islands Maples and Calder: Tina Meigh 222 37 Chile Carey: Diego Peralta 229 38 China King & Wood Mallesons: Jack Wang & Stanley Zhou 236 39 Colombia Lloreda Camacho & Co.: Santiago Gutiérrez & Juan Sebastián Peredo 243 40 Costa Rica Cordero & Cordero Abogados: Hernán Cordero Maduro & Ricardo Cordero B. 250 41 Croatia Macesic & Partners LLC: Ivana Manovelo & Anja Grbes 258 42 Cyprus E & G Economides LLC: Marinella Kilikitas & George Economides 266 43 Denmark Nielsen Nørager Law Firm LLP: Thomas Melchior Fischer & Brian Jørgensen 274 44 England Allen & Overy LLP: David Campbell & Oleg Khomenko 281 45 Finland White & Case LLP: Tanja Törnkvist & Krista Rekola 290 46 France Orrick Herrington & Sutcliffe LLP: Emmanuel Ringeval & Cristina Radu 298 47 Germany SZA Schilling, Zutt & Anschütz Rechtsanwaltsgesellschaft mbH: Dr. Dietrich F. R. Stiller & Dr. Andreas Herr 309 48 Greece Sardelas Liarikos Petsa Law Firm: Panagiotis (Notis) Sardelas & Konstantina (Nantia) Kalogiannidi 318 49 Hong Kong King & Wood Mallesons: Richard Mazzochi & David Lam 326 50 Hungary BPSS Attorneys at Law: Eszter Dávid & Gergely Stanka 333 51 India HSA Advocates: Anjan Dasgupta & Harsh Arora 342 52 Indonesia Ali Budiardjo, Nugroho, Reksodiputro: Theodoor Bakker & Ayik Candrawulan Gunadi 353 53 Ireland Dillon Eustace: Conor Houlihan & Richard Lacken 361 54 Italy Allen & Overy Studio Legale Associato: Stefano Sennhauser & Gian Luca Coggiola 370 55 Ivory Coast IKT Law Firm: Annick Imboua-Niava & Osther Henri Tella 378 56 Japan Anderson Mori & Tomotsune: Taro Awataguchi & Yuki Kohmaru 384 57 Jersey Carey Olsen: Robin Smith & Laura McConnell 392 58 Luxembourg Wildgen: Michel Bulach & Giuseppe Cafiero 402 59 Mexico Gonzalez Calvillo, S.C.: José Ignacio Rivero Andere 410 60 Mozambique TTA – Sociedade de Advogados / PLMJ: Nuno Morgado Pereira & Gonçalo dos Reis Martins 417 61 Norway Advokatfirmaet CLP DA: Ragnhild Steigberg 425 62 Pakistan Kabraji & Talibuddin: Maheen Faruqui & Zara Tariq 433 63 Portugal PLMJ: Gonçalo dos Reis Martins 440 64 Puerto Rico Ferraiuoli LLC: José Fernando Rovira-Rullán 447 65 Romania Trofin & Asociații: Valentin Trofin & Mihaela Spiridon 454 The International Comparative Legal Guide to: Lending & Secured Finance 2018

Country Question and Answer Chapters:

66 Russia Morgan, Lewis & Bockius LLP: Grigory Marinichev & Alexey Chertov 464 67 Serbia JPM Jankovic Popovic Mitic: Nenad Popovic & Janko Nikolic 472 68 Singapore Drew & Napier LLC: Blossom Hing & Renu Menon 479 69 Slovakia Škubla & Partneri s.r.o.: Marián Šulík & Zuzana Moravčíková Kolenová 489 70 Slovenia Jadek & Pensa: Andraž Jadek & Žiga Urankar 496 71 South Africa Allen & Overy LLP: Lionel Shawe & Lisa Botha 505 72 Spain Cuatrecasas: Manuel Follía & María Lérida 515 73 Sweden White & Case LLP: Carl Hugo Parment & Tobias Johansson 525 74 Switzerland Pestalozzi Attorneys at Law Ltd: Oliver Widmer & Urs Klöti 532 75 Taiwan Lee and Li, Attorneys-at-Law: Hsin-Lan Hsu & Cyun-Ren Jhou 541 76 United Arab Emirates Morgan, Lewis & Bockius LLP: Ayman A. Khaleq & Amanjit K. Fagura 550 77 USA Morgan, Lewis & Bockius LLP: Thomas Mellor & Rick Eisenbiegler 563 78 Venezuela Rodner, Martínez & Asociados: Jaime Martínez Estévez 574

EDITORIAL

Welcome to the sixth edition of The International Comparative Legal Guide to: Lending & Secured Finance. This guide provides corporate counsel and international practitioners with a comprehensive worldwide legal analysis of the laws and regulations of lending and secured finance. It is divided into three main sections: Three editorial chapters. These are overview chapters and have been contributed by the LSTA, the LMA and the APLMA. Twenty one general chapters. These chapters are designed to provide readers with an overview of key issues affecting lending and secured finance, particularly from the perspective of a multi- jurisdictional transaction. Country question and answer chapters. These provide a broad overview of common issues in lending and secured finance laws and regulations in 54 jurisdictions. All chapters are written by leading lending and secured finance lawyers and industry specialists and we are extremely grateful for their excellent contributions. Special thanks are reserved for the contributing editor Thomas Mellor of Morgan, Lewis & Bockius LLP for his invaluable assistance. Global Legal Group hopes that you find this guide practical and interesting. The International Comparative Legal Guide series is also available online at www.iclg.com.

Alan Falach LL.M. Group Consulting Editor Global Legal Group [email protected] Chapter 7

Commercial Lending in a Changing Regulatory Bill Satchell Environment: 2018 and Beyond

Allen & Overy LLP Sara Lenet

In the US, the Trump administration has continued to make clear its legislation, which, as a general matter, is unlikely to occur in the desire to ease the regulatory burdens it sees as hampering business near term. The reasons that such legislation is unlikely include generally and, to that end, restricting the ability of banks to lend. It the necessity of a substantial majority in the Senate, where many has indicated that it views financial services regulatory reform as Democrats can be expected to resist such legislation, an imposing a priority and that amending certain provisions of the Dodd-Frank agenda of critical legislative priorities, and the challenges of Wall Street Reform and Consumer Protection Act (Dodd-Frank Act) achieving any legislation in an election year. Despite these will be critical to those efforts. Many major legislative changes are challenges, an ostensibly bipartisan bill, The Economic Growth, unlikely in the near future, but the consensus is that various material Regulatory Relief, and Consumer Protection Act (Economic Growth regulatory changes affecting banking organisations are likely to Act),8 which reflects only a limited implementation of Treasury’s emerge from the exercise of discretion by the new leadership of the recommendations, may be passed by the Senate in March 2018, with key federal banking agencies who share responsibility for supervision at least 12 Democratic Senators expected to vote for the bill.9 of the banking sector: the Board of Governors of the Federal Reserve Other than the Economic Growth Act, reform is more likely to 1 2 System (FRB) , the Office of the Comptroller of the Currency OCC( ) take place through administrative change originating from and 3 and the Federal Deposit Insurance Corporation (FDIC, and together implemented by the Agencies. Recent leadership changes at with the FRB and the OCC, the Agencies). As discussed further the FRB10 and the OCC11 and the pending changes at the FDIC12 below, the new leaders of the FRB and the OCC have indicated their indicate that such a shift in regulatory approach is likely. The support for a more finely calibrated prudential regulatory regime, as likelihood of such change is further enhanced by changes in the has the prospective Chair of the Board of the FDIC. leadership of other key financial regulatory agencies, including the Commodity Futures Trading Commission (CFTC) and the Prospects for Legislative and Regulatory Securities and Exchange Commission (SEC), whose cooperation would be necessary for certain discretionary changes in rulemaking Reform associated with the Volcker Rule and around securitisation.

At the direction of the President, the US Treasury Department has In testimony during the Senate Banking Committee hearing on taken the lead in proposing regulatory change. In February 2017, his nomination to serve as FRB Chairman, then-Governor (now President Trump issued an Executive Order4 announcing steps to Chairman) Powell stated that under his leadership the FRB would revisit the rules enacted after the 2008 financial crisis and giving seek to strike a balance between financial stability and financial Treasury the direction to review key regulatory structures and market efficiency by “continu[ing] to consider appropriate ways to propose changes, including changes that could be implemented ease regulatory burdens while preserving core reforms”, including administratively. Specifically, the Executive Order directed the “strong levels of capital and liquidity, stress testing and resolution 13 Secretary of the Treasury to report within 120 days on the extent to planning”. This vision of regulatory tailoring is consistent with which existing laws, treaties, regulations, guidance, reporting and Chairman Powell’s previous statements as a member of the FRB recordkeeping requirements and other government policies inhibit Board of Governors. For instance, in a February 2015 speech, then- federal regulation of the US financial system in a manner consistent Governor Powell expressed the view – largely with reference to the 14 with certain core principles, one of which is fostering economic Leveraged Lending Guidance – that regulators should maintain a 15 growth and vibrant financial markets through more rigorous “high bar” for interfering in credit markets. In June 2017 testimony regulatory impact analysis that addresses systemic risk and market before the Senate Banking Committee, he emphasised that the FRB failures, such as moral hazard and information asymmetry. should calibrate its requirements to the size, risk and complexity of regulated firms and work to “simplify rules and reduce unnecessary In response to President Trump’s Executive Order, Treasury issued regulatory burden” where possible.16 three Reports during 2017, in which it addressed relevant features of the US financial regulatory system and executive actions and In remarks citing then-Governor (now Chairman) Powell’s June regulatory changes that can be immediately undertaken to provide 2017 testimony, FRB Vice Chairman Quarles likewise advocated regulatory relief on the following broad topics: (1) banks and efforts to calibrate rules more precisely and to mitigate unintended 17 credit unions;5 (2) capital markets;6 and (3) asset management and adverse consequences of regulation. As examples, he indicated insurance.7 that he favours simplifying loss-absorbency requirements by addressing complexities in the total loss absorbing capacity rule18 Some of Treasury’s recommendations, such as changing statutory and eliminating the advanced approaches risk-based capital requirements under the Dodd-Frank Act, would require new requirements as well as one or more ratios in stress testing. He

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also expressed support for measures to tailor liquidity regulation view, burdensome regulatory requirements, such as the enhanced to an institution’s size and risk profile similar to those advocated prudential regulations for institutions with total consolidated assets by Treasury. In a speech before the International Bankers Annual of $50 billion or more and company-administered and supervisory Washington Conference in Washington, DC on March 5, 2018, FRB stress tests, which apply beginning with consolidated assets of $10 Vice Chairman Quarles stated that the FRB is actively working with billion or more, greatly increase regulatory costs and reduce lending its fellow regulators to further tailor and reduce the burden of the capacity, and they should be more appropriately tailored to the size Volcker Rule, particularly for firms that do not have large trading and complexity of a bank’s balance sheet and business. operations and do not engage in the types of activities that may give Treasury Recommendations Requiring Legislative Action rise to proprietary trading. He also stated that the FRB appreciates The Treasury recommended a number of changes that would require the “broad extraterritorial impact of the rule in its current form for legislative action by Congress: foreign banks’ operations outside of the United States” and that the regulators will be revisiting the application of some provisions of ■ raising the threshold for participation in the company-run Dodd-Frank Act stress-testing regime (DFAST) from $10 the Volcker Rule to foreign banks.19 billion to $50 billion in total assets and streamlining the Comptroller of the Currency Joseph Otting has echoed FRB Chairman DFAST process; Powell and Vice Chairman Quarles, noting concern regarding the ■ amending the $50 billion threshold under Dodd-Frank complexity of the bank capital framework, particularly as it applies for application of enhanced prudential standards to more to smaller institutions.20 This position may arise in part from appropriately tailor these standards to the risk profile of bank Comptroller Otting’s view, largely shared by FRB Chairman Powell holding companies; and and Vice Chairman Quarles, that banks have established strong capital ■ providing a regulatory “off-ramp” from all capital and positions and risk-management programs and that credit quality is liquidity requirements, most aspects of enhanced prudential generally good across the banking industry.21 Jelena McWilliams, the standards and the Volcker Rule to highly capitalised banks, nominee for Chair of the Board of the FDIC, indicated during her such as those with a 10% non-risk-weighted leverage ratio, nomination hearing that she also favours a more tailored regulatory consistent with Title VI: Regulatory Relief For Strongly approach, especially with respect to community banks.22 Capitalized, Well Managed Banking Organizations, of the proposed Financial CHOICE Act (H.R. 10) (June 13, 2017).24 In a further shift that aligns with Treasury’s recommendations, the FRB has reportedly instructed bank examiners to cease treating The Economic Growth Act would address the first two Treasury the Leveraged Lending Guidance as a binding set of requirements recommendations above by raising the threshold for DFAST (though technically, as guidance, they should never have been participation from $10 billion to $250 billion in total assets and viewed as “binding”), and the FRB, OCC, and FDIC have raising the threshold for application of enhanced prudential indicated that they are open to reissuing revised leveraged lending standards from $50 billion to $250 billion (with the FRB having the guidance for public comment and revising it accordingly, with authority to raise or lower the thresholds in certain circumstances). an eye toward clarifying ambiguities and alleviating unnecessary Other Treasury recommendations, including the regulatory “off- regulatory burden. This change in tone is also consistent with some ramp” for highly capitalised banks, are unlikely to be implemented congressional criticism: in October 2017 the federal Government by Congress in the near future. Accountability Office GAO ( ) confirmed Senator Pat Toomey’s Treasury Recommendations Not Requiring Legislative Action view that the Leveraged Lending Guidance is potentially subject to The first Treasury Report includes a number of proposals that can be legislative repeal under the US Congressional Review Act.23 Senior effected by the Agencies without prior legislative approval: House Financial Services Committee member Blaine Luetkemeyer ■ narrowing the scope of the application of the Liquidity reacted to the GAO’s conclusion by writing to the Agencies to Coverage Ratio (LCR) to apply only to global systemically inquire as to their plans with respect to the Leveraged Lending important banks, or “G-SIBs”, and applying a less stringent Guidance. standard to other institutions; and This emerging consensus among US federal banking regulators on the ■ reissuing the Leveraged Lending Guidance for public need to tailor capital and liquidity requirements and modify lending comment and refining the Leveraged Lending Guidance restrictions appears likely to persist for some time, particularly given to reduce ambiguity in the definition of leveraged lending strong support for such measures in Congress and Treasury. The and achieving consistency in supervision, examination and shift could bolster commercial lending in the near to medium term enforcement. The Agencies jointly issued the Leveraged Lending Guidance in 2013 to set forth their views on key by freeing up capital for loans and alleviating industry confusion and aspects of a safe and sound leveraged lending program. The concern regarding supervisory expectations on lending standards. Leveraged Lending Guidance emphasises the importance of: ■ credit policies and procedures that define the institution’s Treasury Reports risk tolerance with respect to leveraged lending; ■ loan structures that are based on a sound business premise and support a borrower’s ability to repay and de-lever First Treasury Report over time; ■ a clear definition of leveraged lending that is used The first of the three Treasury Reports, relating to Banks and consistently across the institution’s business lines; Credit Unions, was issued in June 2017. It contains a number of ■ well-defined underwriting standards that identify recommendations that would facilitate discretionary regulatory acceptable leverage levels and amortisation expectations; change that could favourably impact commercial lending, including credit limits and concentration standards that align with revising capital and liquidity regulatory regimes to increase banks’ the institution’s risk tolerance; lending capacity while maintaining safety and soundness standards. ■ robust management information systems; and The Report asserts that availability of bank credit to consumers and ■ guidelines for portfolio stress testing. businesses in the US has been restrained and is growing slowly due The Leveraged Lending Guidance reflects the Agencies’ view that in part to regulatory restrictions and requirements. In Treasury’s a leverage level after planned asset sales that exceeds six times the

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borrower’s total debt/EBITDA “raises concerns for most industries”. Treasury also recommended that the Agencies, CFTC and SEC But the Agencies have also made clear that the 6× metric is “not take the following actions, among others, which could be effected a bright line” and that such a level of debt may be permissible in without legislation: some circumstances where certain compensating factors are present. ■ improve regulatory coordination among the five regulators Treasury noted industry concerns that these statements have that have responsibility for overseeing implementation of the together created considerable ambiguity as to the levels of leverage Volcker Rule (the Agencies, the CFTC and the SEC); that regulators consider acceptable, leaving financial institutions ■ reduce the burdens of the Volcker Rule’s compliance regime, uncertain as to whether they will face supervisory consequences with all banks being given greater ability to tailor their for failure to satisfy the Leveraged Lending Guidance, which in compliance programs to the particular activities of the bank their view is often treated as binding by bank examiners. Treasury and associated risk profile; recommended that banks should be encouraged to incorporate a ■ reduce the burden of hedging business risks; clear set of metrics when underwriting a leveraged loan rather than ■ provide increased flexibility for market-making; and relying on the 6× leverage ratio discussed in the Leveraged Lending ■ adopt a simple definition of “covered fund” that focuses on Guidance. the characteristics of hedge funds and private equity funds, instead of incorporating the overly broad references to Change in Regulatory Tone on the Volcker Rule Sections 3(c)(1) and (7) of the Investment Company Act, 15 USC 80a-3(c)(1) and (7).27

The first Treasury Report also suggests regulatory adjustments with There has been some indication that the Agencies are receptive to respect to the Volcker Rule,26 which imposes significant restrictions reducing the compliance burdens of the Volcker Rule. In August 2017, on “proprietary activities that present particularly high risks and the OCC published a notice soliciting public input on whether certain serious conflicts of interest”, by limiting proprietary trading by aspects of the regulations implementing the Volcker Rule should be banking entities (insured depository institutions, their affiliates revised to better accomplish the purposes of the Volcker Rule while and holding companies, and certain foreign banking organisations decreasing the compliance burden on banking entities and fostering with US operations) and restricting banking entities’ ownership economic growth. While no official regulatory changes or revisions of and relationships with covered funds. While Treasury does not to existing regulations have been proposed, it is clear that the tone is recommend repeal of the Volcker Rule and supports the Volcker shifting on the Volcker Rule toward decreasing compliance burdens by Rule’s limitations on proprietary trading, noting that insured banks more appropriately tailoring its requirements. FRB Chairman Powell with access to FDIC insurance and the FRB discount window has criticised the role of the Volcker Rule in discouraging banks that engage in proprietary trading “enjoy a government-conferred from holding and making markets in corporate debt in ways that had advantage that invites moral hazard”, Treasury believes the Volcker impaired the market. More recently, each of FRB Chairman Powell Rule has “far overshot the mark” and places undue compliance and CFTC Chairman Giancarlo have suggested that he is confident burdens on banks that impact market liquidity. The Volcker Rule that the Agencies, CFTC and SEC would reach an agreement to reduce regulations promulgated by the Agencies, the SEC and the CFTC Volcker Rule burdens on banks, but neither suggested that it would be adopted an expansive view of prohibited activities and imposed a a quick or easy process. FRB Vice Chairman Quarles’ recent speech, 28 highly complex compliance framework to a broad range of banking discussed above, confirms the regulatory appetite of the regulators organisations. “to further tailor and to reduce burden” of the Volcker Rule as well as further limiting its extraterritorial reach outside the United States. In the first Treasury Report, Treasury recommended that Congress take the following actions with respect to the Volcker Rule, among others: Second Treasury Report on Capital Markets ■ exempt banking entities with $10 billion or less in assets from all aspects of the Volcker Rule because they pose a relatively The Treasury Report on Capital Markets, issued in October 201729, small risk to the financial system, which does not justify the also makes some observations and recommendations, with respect compliance burden of the Volcker Rule; to the regulatory changes affecting securitisation, that it asserts may ■ exempt banks with over $10 billion in assets from the enhance lending and that could be put in place without legislative proprietary trading provisions of the Volcker Rule if they have action. less than $1 billion in trading assets and trading liabilities and In its review of the securitisation market, Treasury found: if their trading assets and trading liabilities represent 10% or less of total assets; ■ the current regulatory regime discourages securitisation as a funding vehicle, instead encouraging lenders to fund loans ■ create an “off-ramp” for highly capitalised banks, as described through more traditional methods such as bank deposits; above, as well as focus and simplify certain covered funds restrictions contained in the Dodd-Frank Act; and ■ regulatory bank capital requirements treat investment in non-agency securitised instruments punitively relative to ■ consider eliminating the “purpose test” from the definition investments in the disaggregated underlying collateral; and of proprietary trading, which requires a banking entity to determine whether a trade was made principally for the ■ regulatory liquidity standards unfairly discriminate against purpose of short-term resale, benefitting from actual or high-quality securitised product classes compared to other expected short-term price movements, realising short-term asset classes with a similar risk profile. arbitrage profits or hedging such a position. Treasury recommended that: The first recommendation, exempting banking entities with ■ banking regulators rationalise the capital required for $10 billion or less in assets from the Volcker Rule, is included securitised products with the capital required to hold the in the Economic Growth Act. The rest of these legislative same disaggregated underlying assets. Capital requirements recommendations are unlikely to be implemented by Congress in should be set such that they neither encourage nor discourage the near future. funding through securitisation, thereby allowing the economics of securitisation relative to other funding sources to drive decision making;

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■ rationalising banking and trading book capital requirements the regulators had exceeded their statutory authority in imposing may encourage additional bank participation in this asset risk retention obligations upon them.33 class; The Panel determined that Section 941 of the Dodd-Frank Act34 ■ high-quality securitised obligations with a proven track record “refer[s] to an entity that at some point possesses or owns the assets should receive consideration as level 2B high-quality liquid it is securitizing and can therefore continue to hold some portion assets (HQLA) for purposes of the LCR30 and the Net Stable of those assets or the credit risk those assets represent”35 and that, Funding Ratio (NSFR). Regulators should consider applying to these senior securitised bonds a prescribed framework, consistent with the premise of these provisions that securitizers similar to that used to determine the eligibility of corporate may have had a role in the origination or transfer of the underlying debt, to establish criteria under which a securitisation may financial assets, a securitizer “must actually be a transferor, receive HQLA treatment; and relinquishing ownership or control of assets to an issuer” in order to 36 ■ with the cooperation of the SEC, risk retention rules31 could satisfy clause B of the statutory definition. Because Open-Market also be modified in a way that would enhance the linkage CLO Managers neither originate the underlying loans, nor do they between securitisation and extensions of credit: at any point hold such underlying loans as assets and transfer them ■ Risk retention is an imprecise mechanism by which to to an issuing entity, the Court concluded that Open-Market CLO encourage alignment of interest between sponsors and Managers are not “securitizers” within the meaning of Section 941 investors. Treasury observed that sponsor “skin-in-the- and therefore should not be subject to risk retention obligations game” can serve as a complement to other regulatory under the risk retention rules. reforms, such as enhanced disclosure requirements and This holding refers narrowly to Open-Market CLO Managers, underwriting safeguards, to provide added confidence although the Panel’s reasoning may also have broader ramifications to investors in securitised products. Instead of recommending an across-the-board repeal of the retention and may impact non-CLO structures that share certain structural requirement, Treasury recommends that federal banking features with open-market CLOs. regulators expand qualifying risk retention exemptions across eligible asset classes based on the unique characteristics of each securitised asset class, through Challenges to Legislative Fixes Affecting notice-and-comment rulemaking. the Secondary Loan Market ■ Well-documented and conservatively underwritten loans and leases, regardless of asset class, should not Exemplary of the difficulty in resolving issues that affect lending require the sponsor to retain an interest as an indicator is the status of the legislative response to the 2015 decision of the of the creditworthiness of the underlying collateral. US Court of Appeals for the Second Circuit in Madden v. Midland Asset-specific disclosure requirements should provide Funding, LLC,37 which highlighted potential issues with respect to investors with confidence that securitisations of assets the secondary market for loans, albeit – most immediately at least – that are deemed “qualified” are sound enough to warrant with respect to consumer loans. exemption. In Madden, a national bank had originated a credit card loan to Ms. ■ This expanded exemption would reduce the cost to issue and could encourage additional funding Madden, and charged a rate of interest as permitted for national through securitisation. Treasury reiterates the prior and other banks under the usury statutes of the state in which the recommendations regarding risk retention for residential originating bank was located. The originating bank then sold this mortgage securitisations, as stated in the Treasury credit card receivable to Midland Funding, LLC, a debt buyer located Report on Banks and Credit Unions, in which Treasury in a different state in which the highest rate the non-bank buyer was recommended repealing or substantially revising the permitted to charge under the local usury law was lower than the residential mortgage risk retention requirement. rate charged in the loan to Madden. The Second Circuit held that ■ Regarding the requirement that collateralised loan while the National Bank Act allowed a federally chartered bank to obligation (CLO) managers retain risk even though charge interest under the laws of its home state on loans it makes they do not originate the loans that they select for nationwide, non-banks that bought such loans could not continue to inclusion in their securitisation, Treasury recommends collect that interest because non-banks are generally subject to the that the rulemaking agencies introduce a broad qualified interest rate limits of the borrower’s state. The Second Circuit did exemption for CLO risk retention. CLO managers, like not apply the “valid when made” doctrine, a longstanding principle other sponsors who are subject to risk retention, do have discretion in the quality of the loans they select for their that if a loan is not usurious when it is originally made, it does not 38 vehicles. In the same vein as the broader recommendation become usurious when assigned to another party, and, moreover, that risk retention not be statutorily eliminated but should held that the National Bank Act did not preempt state usury laws that instead be right-sized, Treasury recommends creating a would have been applicable had the loan been originated by Midland set of loan-specific requirements under which managers Funding, because Midland was not a national bank or a subsidiary or would receive relief from being required to retain risk. agent of a national bank. This response fundamentally challenges the While neither the Agencies nor the SEC have commented on any of principle that a loan that is properly originated may not for any reason the foregoing issues, there remains hope that they may be considered become invalid in the hands of a transferee because the transferee over the next year. lacks privileges enjoyed by the originator. Moreover, it threatens the principle that when federal law accords a special privilege to national In the meanwhile, on February 9, 2018, in an action brought by the or state bank originating a loan, that the states – and the borrower – Loan Syndications and Trading Association, a US Court of Appeals are bound to acknowledge the privilege in the hands of the transferee. for the District of Columbia Circuit panel granted relief from risk retention requirements to some CLO managers.32 The Panel Responding to the uncertainty caused by the Madden decision, on rejected the rationale of the regulators for coverage of managers of February 14, 2018, the US House of Representatives passed H.R. 3299, open-market CLOs, in which loans are purchased for the vehicle the “Protecting Consumers’ Access to Credit Act of 2017”, which was from the loan market (Open-Market CLO Managers), concluding originally introduced in July 2017 and would amend the Revised that Open-Market CLO Managers are not “securitizers” within the Statutes, the Home Owners’ Loan Act, the Federal Credit Union Act, meaning of Section 941 of the Dodd-Frank Act and that, therefore, and the Federal Deposit Insurance Act to require the interest rate on

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certain loans to remain unchanged regardless of whether a bank has 11. Joseph M. Otting joined the OCC, as Comptroller of the subsequently sold or assigned the loan to a third party. Currency, in November 2017. Another bill was introduced in November 2017, H.R. 4439, the 12. Jelena McWilliams has been nominated by the President to “Modernizing Credit Opportunities Act”, which was intended to serve as Chairman of the Board of the FDIC, and at the time clarify that the role of the bank as lender and the location of a bank of writing, her appointment is awaiting confirmation by the Senate. under applicable law are not affected by a contract between the bank and a third-party service provider, and to clarify that federal 13. Avail. at https://www.federalreserve.gov/newsevents/testimony/ preemption of state usury laws applies to any loan to which a bank powell20171128a.htm. is the party to which the debt is initially owed according to the terms 14. OCC, FRB, FDIC, Interagency Guidance on Leveraged of the loan. Loans made by banks with marketing and servicing Lending, 78 Fed. Reg. 17766 (March 22, 2013). assistance from nonbank third-party entities and then sold shortly 15. Jerome H. Powell, Governor, FRB, Financial Institutions, after origination have been challenged by regulators on the theory Financial Markets, and Financial Stability: Remarks at the that the nonbank third party is the “true lender” and, therefore, the Stern School of Business, New York University (Feb. 18, 2015), avail. at https://www.federalreserve.gov/newsevents/ loan is subject to state licensing and usury laws, and this bill is speech/powell20150218a.pdf. intended to address this issue. This bill has not yet been put to a vote. 16. Avail. at https://www.federalreserve.gov/newsevents/testimony/ While a bipartisan bill to reverse the result in Madden has been powell20170622a.htm. introduced into the US Senate (S.1642, the “Protecting Consumers’ 17. Randal K. Quarles, Vice Chairman for Supervision, FRB, Access to Credit Act of 2017”), the chances of passage of a bill in Early Observations on Improving the Effectiveness of Post- that Chamber, which typically requires larger margins of approval, Crisis Regulation: Remarks at the American Bar Association are remote, thus dooming any legislative solution in the near term. Banking Law Committee Annual Meeting (Jan. 19, 2018), avail. at https://www.federalreserve.gov/newsevents/speech/ quarles20180119a.htm. Endnotes 18. The total loss absorbing capacity (TLAC) rule requires top-tier holding companies (including top-tier US holding 1. The FRB is the central bank of the United States and also companies of foreign banking organisations with a significant has supervisory and regulatory oversight of bank holding presence in the US) to restrict their business operations and companies, their subsidiaries, state banks that are members to issue debt that will be available to absorb losses in any of the Federal Reserve System, and state regulated branches insolvency. FRB, Final Rule, Total Loss-Absorbing Capacity, and agencies of foreign banks. Long-term Debt and Clean Holding Company Requirements 2. The OCC, an independent division of Treasury, has (TLAC), 82 Fed. Reg. 8266 (January 24, 2017). supervisory and regulatory oversight of national banks, 19. Avail. at: https://www.federalreserve.gov/newsevents/speech/ which includes many of the Nation’s largest banks, and quarles20180305a.htm. federal branches of foreign banks. 20. E.g., Nomination Hearing of Joseph Otting before the Senate 3. The FDIC insures the deposits of FDIC member banks and Committee on Banking, Housing, and Urban Affairs (July has supervisory and regulatory oversight with respect to state 27, 2017), avail. at https://www.banking.senate.gov/public/ banks that are not members of the Federal Reserve System. index.cfm/hearings?ID=D3DED124-900B-4311-A999- 4. Executive Order 13772 (February 3, 2017), avail. at https:// 1F119AF3BFDC; Comptroller Statement on Meeting with www.whitehouse.gov/presidential-actions/presidential- the Acting Director of the CFPB (February 6, 2018). executive-order-core-principles-regulating-united-states- 21. See, e.g., Powell, supra note 16; Quarles, supra note 17. financial-system/. 22. Nomination Hearing of Jelena McWilliams before the Senate 5. US Treasury, First Report, A Financial System That Creates Committee on Banking, Housing, and Urban Affairs (Jan. Economic Opportunities: Banks and Credit Unions, avail. at https:// 23, 2018), avail. at https://www.banking.senate.gov/public/ www.treasury.gov/press-center/press-releases/Documents/A%20 index.cfm/hearings?ID=D3DED124-900B-4311-A999- Financial%20System.pdf (first Treasury Report). 1F119AF3BFDC. 6. US Treasury, Second Report: A Financial System That 23. Title II, Subtitle E. of the Contract with America Advancement Creates Economic Opportunities: Capital Markets (October Act of 1996, Pub L. 104–121, creates a mechanism through 2017), avail. at https://www.treasury.gov/press-center/press- which an agency statement of general or particular releases/Documents/A-Financial-System-Capital-Markets- applicability and future effect designed to implement, FINAL-FINAL.pdf. interpret, or prescribe law or policy is subject to review and 7. US Treasury, Third Report, A Financial System That Creates possible disapproval by Congress and the President. At the Economic Opportunities: Asset Management and Insurance request of Senator Toomey, the GAO concluded that the “[t] (October 2017), avail. at https://www.treasury.gov/press- he Interagency [Leveraged Lending] Guidance is a general center/press-releases/Documents/A-Financial-System-That- statement of policy designed to assist financial institutions in Creates-Economic-Opportunities-Asset_Management- providing leveraged lending to creditworthy borrowers in a Insurance.pdf. sound manner. As such, it is a rule subject to the requirements 8. The Economic Growth, Regulatory Relief, and Consumer of [Congressional Review Act]”. GAO, Applicability of Protection Act, S. 2155 (November 16, 2017), avail. at https:// the Congressional Review Act to Interagency Guidance on www.congress.gov/115/bills/s2155/BILLS-115s2155rs.pdf. Leveraged Lending (October 19, 2017). 9. As of the time of writing, the Senate had not voted on the 24. Avail. at https://www.congress.gov/115/bills/hr10/BILLS- Economic Growth Act. If passed by the Senate, the Economic 115hr10rfs.pdf. Growth Act must then be passed by the US House of 25. FRB, OCC, FDIC, Final Rule, Liquidity Coverage Ratio: Representatives and signed by the President before becoming Liquidity Risk Measurement Standards, 79 Fed. Reg. 61440 law, although these do not appear to constitute major obstacles. (October 10, 2014). 10. These include a new Chairman, Jerome H. Powell, who started 26. Section 619 of the Dodd-Frank Act, 12 USC 1851 (Section in January 2018, and a new Vice Chairman for Supervision, 13 of the Bank Holding Company Act of 1956), and the Randal K. Quarles, who started in October 2017. regulations implemented thereunder, are generally referred to

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as the “Volcker Rule”. The Volcker Rule regulations were 33. LSTA, No. 1:16-cv-00652 at 2–3. promulgated by the Agencies, the SEC and the CFTC based 34. Codified as 15 USC 78o–11, Section 15G of the Exchange on Section 619 of the Dodd-Frank Act, which was advanced Act. by former FRB Chairman Paul A. Volcker. 35. Id. at 5. Section 15G(a)(3)(B) provides: 27. Sections 3(c)(1) and (7) of the Investment Company Act are (3) the term “securitizer” means— exemptions from the Investment Company Act on which hedge and private equity funds typically rely, but there is * * a broader range of investment vehicles that rely on these (B) a person who organises and initiates an asset-backed exemption that do not involve similar kinds of risk. securities transaction by selling or transferring assets, either 28. See note 19 and accompanying text. directly or indirectly, including through an affiliate, to the issuer. 29. The Treasury Report on Capital Markets is the second of the three Treasury Reports issued in response to President 36. Id. at 5-6. See 15 USC § 78o-11(a)(3) which defines a Trump’s Executive Order. The third Treasury Report on “securitizer” to be “(A) an issuer of an asset-backed security; Asset Management and Insurance is not discussed here or (B) a person who organises and initiates an asset-backed because it is less relevant to commercial lending. securities transaction by selling or transferring assets, either directly or indirectly, including through an affiliate, to the 30. The LCR rules were finalised in 2014 to ensure designated issuer.” As noted by the Panel, the Agencies have interpreted banks maintain a sufficient amount of unencumbered HQLA “issuer” in clause A to be the same thing as the substance of to weather cash outflows during a prospective 30-day period clause B, in effect dropping the actual issuing entity out of the of economic stress. Assets deemed to be liquid and readily statutory definition. marketable are designated as HQLA under three categories: level 1; level 2A; and level 2B. Level 2A and level 2B HQLA 37. Madden v. Midland Funding LLC, 786 F.3d 246 (2d Cir. are subject to haircuts and caps toward total HQLA. The 2015). NSFR is a Basel III requirement that would require banks 38. See, e.g., Gaither v. Farmers & Mechanics Bank of to maintain an amount of available stable funding at least Georgetown, 26 U.S. 37 (1828). equal to their funding needs over a one-year period, which complements the LCR rules promoting shorter term liquidity resilience. The Agencies proposed a rule to implement the Acknowledgment NSFR requirement in May 2016, which has not yet been finalised. In its Report on Banks and Credit Unions, Treasury We are very appreciative of the help of Chelsea Pizzola. Chelsea recommended delaying the US implementation of the NSFR is an associate in the global Financial Services Regulatory practice until it could be appropriately calibrated and assessed. based in our Washington DC office and advises a broad range 31. See FRB, OCC, SEC, FDIC, FHFA, HUD, Final Rule, Credit of financial institutions, including banks, swap dealers, futures Risk Retention, 79 Fed. Reg. 77602 (December 24, 2014). commission merchants, broker-dealers, and investment advisers. Prior to joining Allen & Overy, she was a research fellow at the 32. The decision in Loan Syndications and Trading Association v. Securities and Exchange Commission, No. 1:16-cv-00652 Committee on Capital Markets Regulation. Chelsea also previously (D.C. Cir. February 9, 2018) is avail. at https://www.cadc. served as a law clerk in the Office of Chairman J. Christopher uscourts.gov/internet/opinions.nsf/871D769D4527442A8 Giancarlo of the US Commodity Futures Trading Commission. 525822F0052E1E9/$file/17-5004- 1717230.pdf.

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Bill Satchell Sara Lenet Allen & Overy LLP Allen & Overy LLP 1101 New York Avenue, NW 1101 New York Avenue, NW Washington, D.C., 20005 Washington, D.C., 20005 USA USA

Tel: +1 202 683 3860 Tel: +1 202 683 3849 Email: [email protected] Email: [email protected] URL: www.allenovery.com URL: www.allenovery.com

Bill is a member of the global Financial Services Regulatory practice Sara is a member of the global Financial Services Regulatory practice and has nearly 30 years of experience representing financial services and has experience representing financial institutions on a wide organisations – particularly banks – across a wide range of regulatory variety of regulatory and other corporate law matters. These matters issues. These have included advising banking organisations on have included advising on permissible activities and investments, structure and powers issues under the National Bank Act, the Bank transactions with affiliates (Regulation W) and compliance with the Holding Company Act, the Federal Reserve Act and the International Dodd-Frank Act and Volcker Rule. Sara also represents such entities Banking Act. He has also worked in the bank mergers and acquisition in dealings with their US federal and state regulators, including the area, representing banking organisations in the acquisition of, or Federal Deposit Insurance Corporation, Federal Reserve, Office of investment in, banking and nonbank organisations. He advises the Comptroller of the Currency and New York State Department of domestic and foreign banking organisations in connection with Financial Services. compliance and enforcement issues related to many kinds of activities, In addition, Sara has advised both financial institutions and companies including lending, fiduciary, securities processing, custody and in other industries on a broad range of corporate matters and mortgage servicing businesses. transactions, including mergers and acquisitions.

Faced with an ever wider regulatory framework, Allen & Overy’s financial services regulatory practice can help you plan for and navigate these complex developments. We advise the world’s leading financial institutions and have invested in building a large team that covers a very wide scope of regulations. With more than 80 experts across our global network, we offer our clients expertise in the key regions, from our large US practice to full-service coverage of the key European jurisdictions. Our well-established offices in the Middle East and Asia Pacific have also been involved in setting up many of the regulatory systems that exist in those regions today. Allen & Overy’s market-leading New York and English law global leveraged finance practice (comprising an integrated loans and high-yield bonds practice) operates in all of the main financial centers throughout the world. With over 1,000 specialist lawyers worldwide, Allen & Overy has one of the largest and most international teams of banking and finance lawyers of any global law firm. That is why over 800 corporate and financial institution participants in the financial markets entrust us with the full range of their domestic and cross-border transactions. Our practiceis supported by pre-eminent Private Equity, Equity Capital Markets, Debt Capital Markets, Securitization and Restructuring teams. This collective expertise combined with in-depth sector insights makes us one of very few firms with the ability to advise on complex cross-border leveraged finance transactions across the full spectrum of the capital structure, as well as on all types of “crossover” and emerging markets loan and bond transactions.

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