This is a chapter from the Bloomsbury Professional book Legal Principles in Banking and Structured Finance, 2nd Edition, which is a highly user-friendly, introductory guide to the legal issues that commonly arise in banking and structured finance transactions. Written in an informal and accessible style this book demystifies and clearly explains the concepts and terminology encountered in practice, and provides practical solutions to everyday problems. This latest edition was fully revised and brought up-to-date with current legislation at the time of publication. The previous edition of this book was published under the title Selected Legal Issues for Finance Lawyers.
Table of Contents
This chapter deals with some of the basic concepts that you will meet in a loan (or loan facility) agreement, an agreement which constitutes a contractual framework under which a loan or loans will be made, subject to the satisfaction of the conditions precedent on the agreed terms and conditions. Many of these provisions will be substantially the same whether there is one lender or many lenders. For the most part, this chapter deals with those provisions which are relevant in both cases. Chapter 9 provides a much more detailed treatment of issues which apply to syndicated loans, but does also deal with certain aspects of a loan agreement, such as 'acceleration', which are relevant whether there is one lender or a number of lenders. Unless you are looking for the answer to a specific question, I suggest you read this chapter before you read Chapter 9.
2.1 Finance lawyers spend a great deal of their time dealing with arrangements under which debt obligations are created through the issue of bonds or other securities, or arise under agreements for the lending of money. Taking these in no particular order, in Chapter 3, I look at bills of exchange, in Chapter 4 at bond issues and in this chapter, and in Chapter 9, at loan agreements.
(From time to time, in this chapter and elsewhere, I will refer to the 'LMA agreements' – by this I mean the syndicated facility agreements first promulgated by the Loan Market Association in October 1999. These agreements, which were most recently updated in August 2005, continue to take forward the process of standardisation in English law syndicated loan agreements which began towards the end of the 1970s. I wrote the first such standard form in 1979 for Citibank who had decided that if there was a standard form of agreement for the loans they originated out of London, they would be better able (as they may well have put it) to ensure that their credit and legal policy standards were being met. Although (inevitably) less elegant than the individual products of the firms who participated in their creation (having, at least initially, been drafted in committee), the LMA agreements continue to represent the 'state of the art' in English law syndicated loan agreements.)
2.2 Unlike bonds and other debt instruments, loan agreements do not usually create or evidence debts, which is why a loan agreement does not constitute a debenture. This has always seemed to me to be self-evident – see the Financial Services and Markets Act 2000 (Regulated Activities) Order 2001 (SI 2001/544), article 77 in which 'debenture' is included within the defined term 'instruments creating or acknowledging indebtedness'. In the past, regulatory authorities have been known to take a different view, with the result that lending activities which ought to be regarded as outside regulatory regimes, such as those created by the financial services legislation, have sometimes been regarded as subject to those regimes. However, the FSA's view – which I share – is that a loan or loan facility agreement does not constitute a financial instrument under article 77 on the basis that a loan or loan facility agreement is not an instrument nor an agreement which itself creates or evidences debt (see notes 13, 14 and 15 at the end of Chapter 10). As I explain below, such an agreement creates a framework under which loans may be made and it is the making of a loan which gives rise to a debt which will be evidenced by an entry in an account of the borrower with the lender.
A loan agreement creates a contractual framework under which one party (the lender) agrees to lend money to the other party (the borrower), subject to certain conditions being satisfied – one being a request for the money from the borrower – and on specified terms as to repayment of the money borrowed. A debt arises when the money is borrowed, ie when the sum being lent is received by the borrower. (It would not be a good idea when writing a loan agreement to forget to include a provision as to when the loan is to be repaid. Although the loan would, in the absence of a repayment provision, be repayable on demand, this would only be a satisfactory outcome for borrower and lender if the intention was to create an overdraft facility.)
2.3 An obligation to repay a loan constitutes a debt, a definite sum of money agreed by the parties as being payable by one party in return for performance of a specified obligation by the other party or upon the occurrence of some specified event or condition. A debt gives to the person to whom it is owed (the creditor) a claim for payment of a liquidated sum and (in contrast to the position where a contracting party seeks compensation for a failure to perform some other type of obligation) no loss or damage need be shown by the creditor when it sues for recovery of the debt. This is why the important case of Linden Gardens Trust Ltd v Lenesta Sludge Disposals Ltd  1 AC 85, HL, does not pose problems for assignees of debts in the way it could for assignees of other contractual claims.
The House of Lords held in that case that if a claim is assigned in the face of the promisor's failure to consent to the assignment (where this is required by the contract), no rights pass to the putative assignee. If the assignee subsequently recovers the price it paid from the assignor on the grounds of total failure of consideration, can the assignor recover its loss from the promisor? The answer is 'Yes' if the claim is a claim for payment of a debt but, so the House of Lords held, could be 'No' in the case of a claim for damages because the loss suffered by the assignor is too remote to be recovered. This principle may, it is true, give rise to difficulties in relation to certain indemnities found in loan agreements, but the assignor's claim to be repaid is unaffected – no loss or damage need be shown in order to succeed in a claim for payment of a debt (see also 6.17).
2.4 When money is lent, it will nearly always be lent on terms that the debtor must pay interest on the amount lent. Outside the area of consumer contracts, the parties are free to agree on what rate of interest will apply and how the amounts of interest due will be calculated. However, there have always been concerns about whether a provision increasing the rate of interest on the occurrence of a payment default might be void as a penalty, because it might be regarded as a provision which does not constitute a genuine pre-estimate of loss.
These concerns have been largely dispelled by the decision in Lordsvale Finance plc v Bank of Zambia  3 All ER 156. Although it is only a first instance decision, the judge (Colman J) convincingly held that 'a modest increase' in the rate of interest – 1% was the increase in question – which operates after (but not before) the default is contractually binding as being commercially justified and not in terrorem of the borrower. In the course of his judgment, Colman J restated the principle in issue by saying:
'The jurisdiction in relation to penalty clauses is concerned not primarily with the enforcement of inoffensive liquidated damages clauses, but rather with protection against the effect of penalty clauses. There would therefore seem to be no reason in principle why a contractual provision, the effect of which was to increase the consideration payable under an executory contract upon the happening of a default, should be struck down as a penalty if the increase could in the circumstances be explained as commercially justifiable, provided always that its dominant purpose was not to deter the other party from breach.'
(Mentioning that Bank of Zambia is a first instance decision reminds me of the observation of Lord Nicholls in Spectrum Plus – the fixed charge over book debts case decided by the House of Lords in 2005 (see 7.9 to 7.11) – with regard to the first instance decision which was finally being overruled by the House of Lords: '[it] was a first instance decision. It cannot have been regarded as definitively settling the law in this field'. It is to be hoped that Bank of Zambia does not go the way of Siebe Gorman & Co Ltd v Barclays Bank Ltd  2 Lloyd's Rep 142.)
'It would be highly regrettable if the English courts were to refuse to give effect to such prevalent provisions while the courts of New York are prepared to enforce them. For there to be a disparity between the law applicable in London and New York on this point would be of great disservice to international banking.'
The default interest provision which had to be considered in the Bank of Zambia case was unusual in one respect. It provided that after a payment default the margin (and the default margin) should be added to each individual bank's cost of funding. This gave rise to the argument that an assignee which buys a loan at a discount has a lower 'cost of funds' than an original lender and should therefore receive less interest than an original lender. Although the argument was rejected, it is not entirely without merit. The 'cost of funds' formulation is often found, not in default interest provisions, but in 'market disruption' provisions (see below) such as those in the LMA agreements. However clear and unambiguous you think your document is, it can always be improved.
2.6 It is not difficult to create an obligation to repay a loan. All that is needed is for money to be lent pursuant to a binding agreement to lend – no problems here with consideration. However, it is possible for the repayment of a loan, and the payment of interest on it, to become unlawful where, for example, two countries are at war or United Nations' sanctions prohibit dealings with nationals of a given country. Loan agreements usually deal with this in a provision – the illegality clause – which states that if it is unlawful for the borrower to perform its obligations, the lender may 'accelerate' the loan, ie it may declare the loan to be immediately due and payable – this is wishful thinking, but it is the practice – and provides that the lender shall not thereafter be obliged to make any further loans – this is the realistic (and important) part of this provision.
2.7 Illegality of this kind usually arises where relations between countries are in a state of crisis, but it can arise in other circumstances. The Bretton Woods Agreement (which created the IMF), Article VIII, section 2(b) provides that:
'Exchange contracts which involve the currency of any member and which are contrary to the exchange control regulations of that member maintained or imposed consistently with this Agreement shall be unenforceable in the territories of any member.'
The leading case on this section is UCM v Royal Bank of Canada  1 AC 168, where it was held that the term 'exchange contract' should be construed narrowly as meaning a contract for the exchange (ie sale and purchase) of currencies and not a contract for the provision of goods or services which happens to require an exchange of currencies. In Mansouri v Singh  2 All ER 619 the Court of Appeal held that a negotiable instrument which gave effect to a contract for an exchange of currencies was within the section. Although the section would seem not to cover contracts for the lending of money, it is in any event unlikely that a lender would knowingly lend in breach of a country's exchange control regime, although it might be safe to do so unless the loan was in the borrower's home currency. The English courts will not enforce a contract if it would be illegal to perform the contract in the place where it is to be performed and as Aikens J, the judge in the Argo case (see 9.25), reminds us (at paragraph 85 of his judgment), the place where an obligation is to be performed is 'the place in which, according to the express or implied terms of the contract, the obligation has (his emphasis) to be done'. However, where a loan is in a currency other than the borrower's home currency, this rule would be unlikely to apply just because of local exchange control regulations, because payments of principal and interest are usually required to be made in the country of the loan currency.
2.8 Having identified some issues relating to the debts that arise under a loan agreement, I will look at some of the features of a conventional English law syndicated loan agreement. Even though loan agreements are not drafted in this way, I have always found it useful to regard such an agreement as being divided into two halves, each half being further divisible into three parts. These sub-divisions are intended to shed light on what is going on in a loan agreement (and to avoid a tedious clause by clause approach). The first three sub-divisions, which deal with the lender/borrower relationship, are the following:
circumstantial provisions – the provisions which describe the circumstances in which the lenders are willing to lend and to continue to lend;
operational provisions – the provisions which regulate the making of loans, their repayment with interest and the payment flows between the parties; and
protective provisions – the provisions which are intended to protect the lenders against the adverse effects of such things as taxes, capital adequacy requirements and supervening illegality.
The second set of sub-divisions deals with other aspects of the contractual arrangements, namely:
2.9 A lender, or group of lenders, will take the decision to lend to a borrower on the basis of the circumstances prevailing at the time the loan agreement is entered into, including both the financial condition of the borrower and projections as to the borrower's business activities and financial condition in the future. In effect, lenders lend to the status quo. The circumstantial provisions are the provisions which:
describe or evidence the status quo (representations and conditions precedent);
contain undertakings by the borrower with regard to changes in the status quo which are within the borrower's control (covenants); and
describe changes in the status quo, which, whether or not within the borrower's control, are regarded as unacceptable by the lenders – events the occurrence of which entitle the lenders to decline to lend any more money and to ask for immediate repayment of any money already lent (events of default) – see 2.16 below and 9.9 to 9.12.
All the representations the lender wants to be able to rely on should be set out in the agreement. Although it has the usual remedies where a party to a contract has made a misrepresentation, a lender is better protected by the usual provision that an event of default will have occurred if any of the 'representations and warranties' (as they are usually called) prove to have been (materially) incorrect or inaccurate. This contractual mechanism makes it unnecessary, for example, for the lender to prove that it was induced by the misrepresentation to enter into the agreement. (The effect of sections 1(a) and 2(2) of the Misrepresentation Act 1967 on a party's right to rescind a contract where a misrepresentation has become incorporated as a term of a contract is uncertain and obscure. Because a lender is unlikely to want to rescind a loan agreement, given its contractual rights, this particular black hole can be ignored in the absence of exceptional circumstances.)
2.10 The distinction I have made between covenants and events of default – that covenants cover matters which are within the borrower's control and events of default those which are not – is often ignored, particularly in relation to what are usually called 'financial conditions'. In the late 1970s, a major UK corporate borrower was perceived as being 'in default' when a covenant covering its net worth was 'breached' because its very large minority stake in a quoted company fell sharply in value as a result of problems affecting that company which were not in any way attributable to the borrower. Agreement was in due course reached between the borrower and its lenders, albeit only after the borrower had sought and obtained support from the Bank of England. However, it has always seemed to me that the borrower would have had a good counter-argument to the assertion that, to use the usual language, it had 'failed to perform its obligations under [the financial condition covenant]'.
Getting traditional, balance sheet based 'financial conditions' correctly embedded in a loan agreement is a task of real difficulty, one reason being the application of a principle similar to Heisenberg's famous 'uncertainty principle' – the observer alters the observed. Whenever a lender looks at evidence of a borrower's financial condition, the borrower's actual financial condition will have changed – financial statements are always historic. A related problem is the old chestnut about whether an event of default has to be 'continuing' in order for the lender to exercise its right to 'accelerate' the loan.
In some contexts, these issues can be avoided because the financial covenants that are relevant in business terms are based not on balance sheet ratios, such as debt to equity (or 'net worth'), but on the debtor's cash position as reflected, for example, by the ratio between net earnings for a period and the interest due to the lenders during that period. A ratio of this kind can be written as a covenant to ensure that as of each of a series of agreed dates the chosen ratio will be less (or more) than a specified ratio for the relevant date. A covenant in these terms may also address the continuing event of default issue; if a promised state of affairs for a given date is not achieved, the resulting 'event of default' can only be a continuing default because the default can never be cured.
This is not the place to propose solutions to these problems – and the solutions will depend on who you are advising – but it is important to be aware of them.
2.11 I said earlier that an obligation to repay a loan will arise if the loan is made pursuant to a binding agreement to lend. As well as constituting the evidence of the lender's commercial due diligence, the conditions precedent should provide all the evidence (including legal opinions) needed to conclude that the loan agreement is valid, binding and enforceable. Although English law entitles persons dealing with an English company to rely in certain circumstances on the company and its representatives as having the capacity and power to enter into a contract (Companies Act 1985 (CA 1985), sections 35 and 35A), it would not be safe to rely on these provisions where enquiry is made as to these matters – if you ask any questions, you must ask them all.
2.12 As I have said, the way in which I have divided up the contents of a loan agreement does not reflect the way in which loan agreements are usually written. So although the circumstantial provisions will very often, with the exception of the conditions precedent, be grouped together in a loan agreement, this is not likely to be the case with the other sets of provisions. (When asked whether there is a correct order for the provisions of a loan agreement, a former colleague famously remarked that there is no right order, but there is a wrong order.) Thus, the provisions of a syndicated loan agreement dealing with the amount of the loan, the purpose for which the loan is made – my favourite such provision announced that the purpose of the loan was to finance the purchase of 'unarmed helicopters' – the respective commitments of the banks, the conditions to be satisfied before loans are made, rates of interest and repayment terms are likely to be found towards the beginning of the agreement, but not necessarily in precisely that order nor in sequence.
These provisions raise practical issues, rather than legal issues, the most easily overlooked of which – at least, it is one which, many years ago, I overlooked in a first draft – is the need, in relation to a floating rate loan, to match funding periods with 'interest periods' – the periods by reference to which interest payable by the borrower is calculated. This is particularly important where a repayment date falls during an interest period, in which case the loan agreement must provide that the loan is to be 'split' into two parts, one of which must be at least equal to the amount to be repaid and have an interest period ending on the repayment date. This is a specific consequence of the underlying assumption, in a floating rate loan agreement, that the lender will fund the loan by borrowing in the interbank market deposits of amounts and for periods which 'match' the amounts and interest periods of the loan (or loans) outstanding under the loan agreement.
2.13 The 'matched funding' assumption underlies a number of the provisions found in a 'eurocurrency' loan agreement. One such provision is the 'alternative interest rates' (or, as in the LMA agreements, 'market disruption') provision which would apply if there were a breakdown in the usual interest rate fixing procedures. The purpose of the market disruption clause – so far as I am aware it has never been invoked – is to protect the lenders' yield, ie to ensure that the interest they receive equals the 'margin' over their cost of funds. This is also the purpose of two of the other protective provisions: the 'taxes' provision and the 'increased costs' provision. The first seeks to protect a lender from any reduction in yield attributable to taxes other than those on the net income of the lender in the jurisdiction(s) in which the lender is resident for tax purposes. The second seeks to protect a lender from any reduction in yield suffered by reason of compliance with the requirements of central banks or other regulatory authorities. The borrower's obligations under the taxes provision (at least in part) and under the increased costs provision are expressed as indemnities. Assignments of the benefit of indemnities such as these could be caught by the decision in Lenesta Sludge if consents to assignment required by the loan agreement are not obtained – see 2.3 above.
Another of the protective provisions is the illegality clause, which I mentioned earlier. The object of this provision is rather more fundamental than the others in that the aim is to ensure that a lender is not contractually obliged to lend where repayment by the borrower would be unlawful. If there were no such provision, the lender might well be liable in damages if it failed to lend, but any loan it made would probably be tainted with the illegality and its repayment unenforceable. The good news, from the lender's perspective, is that the English courts would not compel the lender to make further loans. The courts will not order specific performance of an obligation to lend money on the grounds that damages are an adequate remedy. Indeed, as Lord MacNaghten put it in South African Territories Ltd v Wallington  AC 309 at 318, HL:
'that specific performance of a contract to lend money cannot be enforced is so well established, and obviously so wholesome a rule, that it would be idle to say a word about it';
and see also 7.2.
2.14 Although many of the difficulties which can arise in relation to assignment can be circumvented by the use of appropriate clauses and procedures, assignment is inadequate as a means of transfer in the context of loan agreements because obligations cannot (under English law) be assigned. This is inconvenient in relation to loan agreements because the lenders will, as we have seen, always assume an obligation to lend, an obligation which may continue for weeks, months or years. If a lender wants to divest itself, wholly or partly, of its interest in a loan agreement, it will want to be able to 'transfer' its obligations as well as its rights (and the other parties will want its successor to assume its obligations to them). This led to the concept of 'transfer' procedures which operate, as mentioned in 1.6 (and see also 9.20 to 9.23 and Chapter 10), through a structure relying on a standing offer.
The transfer provisions in a syndicated loan agreement set up procedures under which all the parties to the loan agreement agree (by entering into the loan agreement) that if a lender and a 'transferee' (i) agree upon a transfer of all or part of the lender's interest, (ii) record the agreement – but not the price or other ancillary matters which are to be dealt with separately – in a prescribed form and (iii) deliver this to the agent bank, the transfer will take effect. The effect of a transfer – as expressed in the loan agreement – is that the transferee becomes a party to the agreement with rights and obligations which are the same – the identity of the parties excepted – as those the 'transferor' had before the transfer (to the extent of the interest transferred).
The legal principle underlying this structure was well expressed (in a very different context) by Collins MR in Tolhurst v Associated Portland Cement Manufacturers (1900) Ltd  2 KB 660 at 668, where he said:
'a debtor cannot relieve himself of his liability to his creditor by assigning the burden of the obligation to somebody else; this can only be brought about by the consent of all three, and involves the release of the original debtor.'
As well as enabling obligations (to lend) to be transferred, the 'transfer certificate' route can be structured so as to give the borrower total or partial control over the type or identity of specific transferees or classes of permitted transferees (there being both credit and tax implications for a borrower) – see 9.24 to 9.28. The structure also enables the transferee and transferor (buyer and seller) to document the commercial terms of the transfer separately and, thus, privately. Syndicated loans are a key banking product and structures such as this contribute to their remaining a real alternative to capital markets products (and to their being an important asset class in the context of CDOs – see 4.7). Syndicated loans are currently very widely used, but this has not always been so – see 10.2 and 10.3.
2.15 Most of the provisions dealing with the relationships between the lenders and the agent bank will be found in the section of the agreement which deals with the role of the agent bank. Those dealing with lender-to-lender issues tend to be scattered throughout the agreement. For instance, the very important stipulation that the obligations of the lenders are several – one lender is not liable for another's failure to perform its obligations – usually appears very early in the agreement, but the provision which represents the other side of this coin – the 'sharing clause' – is invariably found towards the end of the agreement, as in the LMA agreements. Perhaps the respective positions of these provisions in a syndicated loan agreement reflects the fact that whereas the concept of several liability is fundamental (as I explain in Chapter 9), the principle embodied in the sharing clause – that a lender which gets more than its rightful share of a sum due from the borrower will share the surplus – is, in practice, more honoured in the breach than in the observance – see 9.2 and 9.13.
Where international disputes and/or UN sanctions have prevented borrowers from paying all the lenders in a syndicate, those who got paid or otherwise recovered what they were owed did not always share the payments (or only did so after a lengthy delay) and where the problem was that payments could not be made through an agent bank, they were made directly to the affected lenders (thus obviating the need to persuade other lenders to share payments they received through the agent bank).
2.16 The content of a modern syndicated loan agreement's agency provisions differs little from agreement to agreement, the LMA agreements' provisions being typical examples – the basic provisions were identified a long time ago. However, an agent bank is likely to have fewer discretions than it used to have and where it has a mechanical task to perform (for example, making a calculation in relation to amounts due from the borrower), this will be expressly stated rather than being left to be inferred from the circumstances. The agent bank's ability to 'accelerate' the loan at its own discretion usually remains (subject to the views of the borrower as expressed in negotiation) on the basis that an agent bank needs emergency powers where things go wrong.
Other than in exceptional circumstances, an agent bank would not 'accelerate' a loan otherwise than on the instructions of the 'majority lenders' (or an 'instructing group', as I prefer to call them) – that is a group of banks to whom is owed more than a specified percentage (usually 50% or 66.66%) of the loan (and/or whose commitments to lend are of the same relative magnitude). The choice of percentage can become a very contentious issue – and different percentages may be needed for different purposes, where, for example, a borrower wants it to be difficult for an agent bank to obtain instructions to accelerate, but relatively easy for it to grant waivers in respect of burdensome covenants – see 9.7 to 9.12.
A relative latecomer among the agent bank provisions was that giving to the agent bank a right to resign. This provision is certainly necessary from the agent bank's perspective. In the absence of an express term in an agreement creating a principal/agent relationship, the agent can be dismissed but may not resign. A clause will only be implied into a contract of agency if it must necessarily be implied by the nature of the contract and it can hardly be argued that a right to resign is required in order for an agent bank to perform its role. In practice the provision probably achieves less than is thought, particularly where the right to resign is contingent (as it usually is) on the appointment of a successor. (See 9.14 to 9.19 for a discussion of a number of the other agent bank provisions.)
2.17 The great majority of international syndicated loans contain provisions for the resolution of disputes in the courts, although an increasing number of agreements provide for arbitration, especially if the borrower is located in Central and Eastern Europe (where most, if not all, countries are party to the 1958 New York Convention on the recognition and enforcement of arbitration awards). The usual requirement is for the borrower to submit to the jurisdiction of the courts in England and, often, particularly if the borrower is a sovereign or quasi-sovereign entity, New York. (Only rarely does a borrower require lenders to make a similar submission.) Where the borrower is not an English company, it is also usual to require it to appoint a 'process agent' – an agent for the service of process – in the specified jurisdiction(s). These provisions are rarely contentious, save in the case of sovereign or quasi-sovereign borrowers, where issues of sovereign immunity have to be dealt with – see 2.18 below.
Until recently, the usual form of jurisdiction clause rather puzzlingly stated that the borrower agrees 'for the benefit of' the lenders to submit to the jurisdiction of the specified courts. This phrase was needed to ensure that where signatories were parties to the 1968 Brussels Convention (incorporated into English law by the Civil Jurisdiction and Judgments Act 1982) the submission would not exclude the jurisdiction of all other signatory states.
The position now is that in relation to a state to which EC Regulation 44/2001 applies, the phrase is not needed because this regulation allows submissions to be non-exclusive. However, the regulation does not apply to Denmark, in relation to which the Brussels Convention continues to apply, nor to certain parties to the Lugano Convention (Iceland, Norway and Switzerland), in relation to which the old 'benefit' wording needs to be used if there is to be a submission to the English jurisdiction by a party against whom the right to commence proceedings in those states is to be retained! (I have explored this particular black hole to a greater extent than I would have wished in order not to mislead you. It remains essential to include jurisdiction provisions in any loan agreement in respect of which any party has a connection to any jurisdiction other than England and Wales and for those provisions to be crafted with the benefit of input from a specialist in this area.)
2.18 The presence in loan agreements with a sovereign or quasi-sovereign borrower of two different provisions, each of which – this is the usual approach – seeks to deny to the borrower whatever immunity it might have is also rather puzzling. There is one provision under which (if it agrees to do so) the borrower 'waives' any immunity it may have and another under which it 'consents' to proceedings being brought against it. The first provision is intended to fall within the relevant US legislation, the Foreign Sovereign Immunities Act of 1976, which, oversimplifying somewhat, confers on states (and on majority-owned state agencies) immunity from suit in relation to activities which are not commercial activities carried on, in or having an effect in, the United States, and immunity from attachment and execution, save in relation to property used for a commercial activity on which the claim is based, unless the foreign state (or its agency) has waived its immunity. The second provision is drafted so as to track the relevant provisions of the UK legislation, the State Immunity Act 1978 (enacted so as to keep UK law 'up to speed' with US law), which confers on states (and on separate entities 'acting in the exercise of sovereign authority') similar immunities to the extent the state has not given its consent to the taking of proceedings. The whole area of sovereign immunity is a large but important black hole, which must not be ignored if there is any question of departing from the usual provisions, which are, in effect, market standard provisions.
2.19 The syndicated loan is central to a large part of London's financial markets. Apart from the syndicated loan market itself (and the resulting secondary market), acquisition finance and project finance are important areas where a (complicated) syndicated loan agreement is one of the core documents. Despite this, there have been relatively few reported cases which deal with issues that are either specific to syndicated loan agreements or to loan agreements generally. This is partly because the underlying legal issues are for the most part neither difficult nor obscure and partly because, until recently, it has been an activity which was the province of litigation shy banks who preferred to resolve differences without resort to litigation – but the position has changed over the last few years as the identity of the participants in the syndicated loan market has changed – see 4.2. For a discussion of some important, recent cases which relate to or are relevant to syndicated loans see 9.10 to 9.12, 9.25 to 9.27.
The decisions in all these cases are consistent with market practice and serve to remind us of how well informed the judges are with regard to international banking practice, as is evident from the Bank of Zambia case (see 2.4 above – but see also 16.1 and 16.2). Nevertheless, it is for the most part market practice and the commercial terms of the deal, rather than legal considerations, which dictate the form and content of a loan agreement.
2.20 A case which is less obviously relevant to a discussion about loan agreements, but in practice sometimes will be, is Arab Monetary Fund v Hashim (No 3)  2 AC 114 in which the House of Lords decided that the English courts would recognise the Arab Monetary Fund as having legal personality and the capacity of a body corporate. This is an important case because it reminds us that we cannot take for granted the existence, as a matter of English law, of a foreign entity (which may be a borrower or a lender) even if it appears to have all the characteristics of a corporate entity.
There are numerous international organisations which have been created by treaty. In many cases the UK is a party to the treaty, in which case there is no problem, and more often than not the International Organisations Act 1968 will have been invoked to confer both personality and immunity on such an organisation. In other cases, however, the UK may not be a party to the treaty and the Act will not apply. In such a case, the entity may not have legal personality as a matter of English law because it falls outside the general rule that a corporate entity's existence as a legal person is determined by reference to the law of the jurisdiction where it was created – a treaty organisation is formed by the treaty, not under the law of a particular jurisdiction.
The House of Lords held that the Arab Monetary Fund, an organisation created by a treaty to which the UK is not a party, would be regarded as a legal person because a decree had been passed in Dubai – which is a party to that treaty – the effect of which was to cause the fund to have legal personality in Dubai. This is still outside the general rule, but the House of Lords needed to find a credible solution and adopted one which is based on comity – the principle that the English courts will respect the view of another court with regard to matters within the jurisdiction of that other court. In doing so, the House of Lords were upholding the first instance decision of Lord Hoffmann which, he admitted had as 'a logical consequence ... the existence of other emanations of the fund under the laws of other member states' and added 'This raises questions of trinitarian subtlety into which I am grateful that I need not enter'.
2.21 On the day I despatched the final set of proofs of the first edition of this book to the publishers – under its original title of Selected Legal Issues for Finance Lawyers – I met, for the first time in 20 years, section 3 of the Partnership Act 1890 which provides that if a lender makes a loan on terms that the rate of interest varies with the borrower's profits, the lender is subordinated to the borrower's other creditors in the event of the borrower's insolvency or its entering into an arrangement with its creditors to pay less than 100p in the pound!
This statutory provision, a re-enactment of an earlier statute referred to in the cases as Bovill's Act, is still in force. I had met it – or should I say, remembered it – on seeing a proposal for an issue of notes under a so-called LPN structure – see 2.23 below – where the rate of interest under the underlying loan agreement was to vary with the profitability of the borrower. I pointed out the effect of the statute and the link between the interest rate and the borrower's profitability was dropped.
Fortunately, the case law on the section establishes that the section does not prevent a secured creditor from enforcing its security or claims against third parties. The judges were at pains to limit the effects of the section which they did not hold in high regard as is evident from the remarks of Lindley LJ in Badeley v Consolidated Bank (1888) 38 Ch D 238, CA at page 261. 'Supposing', he said, 'that a person lends money upon mortgage (sic) of real estate, and stipulates that he is to have a share in the profits of some business, is it to be supposed that the mortgagee could not bring an ejectment to recover his security because of this 5th section of Bovill's Act? It is too absurd'. 'That is not recovering his principal and interest', he said, referring here to the language of the section which reads (at the relevant point) 'the lender of the loan shall not be entitled to recover anything in respect of his loan'.
There are some uncertainties here, such as the effect, if any, of the section on a loan to a borrower incorporated outside England and Wales, but so-called 'margin ratchet' lending, which is common in acquisition finance, would seem to be safe if it is secured, which it invariably is. A slight concern is the implication in this and other cases – for example Ex parte Shiel In re Lonergan (1877) 4 Ch D 789, CA in which Jessel MR observed (at 793) 'His right was, not to recover the money but to keep the estate till the money is paid, which is a totally different thing' – that the claim on the borrower for the principal and interest of the secured loan is nevertheless impaired to the extent that the borrower has property which is not comprised in the security or that the security is defective or cannot be realised. Points to be borne in mind, perhaps, by a firm issuing an opinion in such circumstances.
2.22 The cases also tell us (to quote from Kay LJ in Re Hildesheim ex parte the Trustee  2 QB 357, CA at 367 that 'it has most distinctly been held that, unless the subsequent transaction amounts to a bona fide repayment of the original advance, and the making of a new advance upon terms which take the case out of Bovill's Act, the Act continues to apply; and the loan must still be considered as subject to the provisions of the Act, notwithstanding the change which has been made in its terms'. So if you have a rogue loan which is inadvertently affected by section 3 of the Partnership Act 1890, you cannot cure the problem by means of an amendment alone; the loan must be repaid and a new loan made on the new terms.
(The manner in which a repayment and relending might occur was the subject of imaginative treatment in this case by Lord Esher MR who envisaged, at 365, that 'if the person who had obtained the first advance were by arrangement with the lender to bring the money and put it on the table and push it across to him, but on the understanding between them that, the moment he had done so, the lender would push it back to him upon the new terms, that would not be a new advance, it would still be the old advance. The transaction would be what Mr Finlay' – counsel for the creditor and instructed, it pleases me to note, by the firm with which I served my articles, Grundy, Kershaw in Manchester – 'accurately called a mere scenic thing, a mere play. There would be but one advance'. But, Lord Esher added, 'the present case does not even come up to that'.)
2.23 An LPN – a loan participation note – structure is one under which, at its simplest, a lender of money to a borrower – and the loan will usually be unsecured – funds itself by the issue of notes which are secured by the payment flows (principal and interest) from borrower to lender under the loan agreement. Such transactions take many forms but the common factor is a suitable double tax treaty between the jurisdictions in which lender and borrower are resident for tax purposes.