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Global rules on foreign direct investment (FDI)
Cross-border acquisitions and investments increasingly trigger foreign direct investment (FDI) screening requirements.
United Kingdom | Publication | maart 2020
Over the course of the last few days, with the dramatic plunge in oil prices and increased concern around the impact of COVID-19 (coronavirus), the need for shipping financiers and owners to consider its implications under their financing agreements has become even more pressing. Before the virus took hold we had already seen challenges facing the industry with IMO 2020, upcoming maturities on facilities and auditors looking hard around the going concern statement. To add further to these challenges with COVID-19 and the oil price deterioration means we are expecting to see real challenges for the shipping sector in the next few months.
There are obvious segments, such as cruise and containers, where we are already seeing issues. Cruise lines are having their credit ratings cut and there is much commentary in the press around the refinancing risk for containership owners. However, the impact will not be limited to cruise and containerships and we are seeing problems elsewhere, including for example, in the offshore sector and the dry cargo segment.
In terms of specific points to flag, the list below is not exhaustive of the issues but highlight the need to consider and take advice on loan agreements given the current crisis.
One of the most pressing concerns we foresee is centred on liquidity. What we have found over the last few years is that liquidity can dry-up very quickly and even where there is a willingness for lenders to provide further financial support, it can be difficult to make this available at short notice. The nature of ship financing and the security package lenders take as part of this makes it difficult for new lenders to make available facilities on a secured basis and the restrictions on incurring financial indebtedness do not typically have baskets permitting new financing. We have seen an increase in sale and leaseback arrangements over the last few years in the shipping sector and although this might be a means to address liquidity needs, such arrangements would typically be restricted by existing facility agreements.
An owner cannot simply “turn off the tap” on incurring opex on vessels, maintaining insurances and even paying for lay-up costs. Forward planning is obviously therefore important should owners think there will be a need for working capital facilities. We have seen companies in the past fall into insolvency precisely because they left it too late to address all the hurdles they face in injecting new money. Owners also need to be aware that negotiations with creditors with a view to rescheduling any of their indebtedness can be an event of default under existing loan agreements, although this typically will exclude such discussions with any existing lender in its capacity as such and just having exploratory discussions is unlikely to trigger such events of default.
The outbreak of COVID-19 has brought with it much talk of triggering material adverse change or material adverse effect provisions in contracts. It is unlikely that the fact that a party is located in, or is trading to, an area which is affected by the outbreak would of itself constitute a material adverse change in its financial condition (although, depending on the surrounding facts, it might have a material adverse change in its prospects). However if a borrower subsequently experiences financial difficulties as a consequence of the outbreak, then that deterioration in financial condition could constitute a material adverse change in its financial condition.
It has been held that for an event to be material it must (a) not be temporary and (b) significantly affect the party’s ability to perform its obligations under the contract. It is not known how temporary the outbreak will be and, in any event, a temporary event may have permanent consequences. To establish a material adverse change is inevitably going to be a highly subjective process involving careful consideration of the drafting and surrounding circumstances. Nonetheless, where a borrower is suffering financial problems as a result of the outbreak, it is likely that other contractual provisions, such as a breach of a financial covenant, a payment default or the failure to perform an obligation, will also be triggered. It would be much easier to rely upon and enforce those more specific contractual provisions than to argue that a material adverse change has occurred. However, as we discuss further below, parties to financing arrangements will need to be mindful of the material adverse change provisions in their documents and ensure that they are comfortable that obligations around these are being met properly during the outbreak.
Most loan agreements will contain some form of information undertaking and borrowers will need to ensure that they comply with this. The scope of the undertaking will vary across different facilities and will also be dependent on the nature of the financings; for example, a newbuilding financing will contain wider information undertakings around underlying contracts such as building contracts than a post-delivery facility would. Borrowers will need to look at the nature of these undertakings to see if the effect of the outbreak, or any discussions or processes implemented around this trigger any information requirements. In addition, some information undertakings will give the lenders the right to ask for information and so borrowers will need to ensure that they respond to any such requests within appropriate time limits.
If the loan is not fully drawn, the parties will be examining whether the circumstances will result in a draw-stop, particularly if force majeure has been called in relation to key underlying contracts for the loan agreement – for example, under a building contract in a newbuilding finance. Borrowers will need to look carefully at statements being made in connection with any utilization under a loan agreement. Often conditions’ precedent will require that the borrower confirm that there has not been any material adverse change in the financial situation of the borrower, or the wider group at the time of utilization. Whilst this should not be difficult to confirm for loan facilities that have been signed recently, borrowers will need to give consideration to whether they can make these statements for facilities which were signed before the COVID-19 outbreak.
Aside from material adverse change or material adverse effect events of default, which are discussed above, there are a number of other potential events of default which could be triggered as a result of the COVID-19 outbreak, including:
One of the most notable changes within shipping over the last few years has been the growth in the secondary trading of shipping loans. In this regard, we expect to see existing lenders seeking to exit and new entrants actively seeking to buy up loans, whether as portfolio sales or as single trades. This can be a particular cause for concern for shipowners and restrictions on transfer and borrower consent rights will typically fall away when an event of default is continuing.
Often with larger shipping groups there is a sharing of certain costs such as salaries, general and administrative costs. Owners need to be aware that if they face financial difficulties, the ability to move money around groups may be curtailed, either through covenants and undertakings in existing loan agreements but also in view of directors’ duties considerations which means the directors typically need to consider these issues on a company-by-company basis rather than a group-wide basis.
In conclusion, there are various pitfalls and traps for the unwary, whether looking at things from the perspective of the lender or the borrower. Parties, especially borrowers, will need to look carefully at their obligations under their financing arrangements and ensure that these are being met in the context of the challenges presented by COVID-19 and business planning around the outbreak. We recognize how fast-moving and volatile the current situation is but wherever possible, lenders and borrowers need to consider now issues such as those addressed above.
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