Template:M gen 2002 ISDA 3(d)

More on “covered by the Section 3(d) Representation”

We went digging a little deeper. These are the only examples we could find before we got bored looking. In each case we are not persuaded these caveats accommodate anyone other than our value-adding learned friends:

Legal opinions

Should a legal opinion issued by a third party who is not party to the agreement, or even affiliated with it, have to be true in the Section 3(d) sense?

The predictable response is for the counterparty to say, “look: I’m not a lawyer, okay, so it can hardly be on me if the legal advice I get in good faith happens to be wrong?” We suppose this is excluded because the Party to the ISDA is not the author of the legal opinion, nor professionally competent to pass on its contents (hence the need for the legal opinion in the first place), so should hardly be expected to be held to account for it.

This may be expressed to you, dissonantly, in the honeyed prose of a private practice lawyer — a vernacular foreign to most ISDA negotiators. You may wonder whether it has not been disingenuously spoon-fed to your counterpart by just such a fellow. We will not speculate. But we will observe that, while it may seem compelling at first, it is bad logic. It presumes that what matters is the probity with which a counterparty conducts itself; that it acts in good faith and with a benign disposition; that its “good chapness” —the basic honesty it shows when dealing with its market counterparties — is beyond reproach.

But this, we submit, is to misunderstand in a profound way the point of a commercial contract. There are no ethicists in a foxhole. Unlike criminal or even tort law, the law of contract is not an instrument of moral judgment. It cares only about economics: that one does, or does not, do what one has promised or — as in this case — that what one has represented to you is, or is not, true. The law of contract is broadly incurious about why.

What matters is the economic consequence of a falsity — the actus reus, not one’s mens rea. The object of a legal opinion is to confirm the accuracy of a legal representation. Instead of simply representing that, for example, you have the regulatory permission to act as a swap dealer, you have a legal opinion to confirms that fact, from one who should know.

Now, if I have engaged in a trading arrangement with you on the presumption that you are appropriately permissioned, licenced, and constitutionally able to enter into valid and binding swap contracts, and you satisfy my qualms by proffering the legal opinion of some respectable attorney-about-town you have found who will say it is so, and that attorney turns out to be wrong, my commercial position is no less parlous just because you weren’t to know your legal advisor was a clot. Regardless of whose fault it was, or how egregious was her negligence in being at fault, if the required regulatory permission does not exist, the comfort I seek is misplaced. I now have a portfolio of swaps which may not be enforceable. My claims may be suspended at any minute.

I want out before that can happen. I might wish you well, and bitterly regret it were not otherwise, but it is not otherwise. I need out. If that causes you some embarrassment, inconvenience or financial loss, then the person to whom you should look for redress is your lawyer.

Not for the first time, the “market standard,” for no reason other than it is a legal question and there is no-one else around qualified to gainsay it, is crafted to suit the personal interests of the opining legal community. Have no truck with this, fellows.

Credit Support Documents

We imagine here the perceived fear is that a Credit Support Document, being an executed legal contract, does not have a truth or falsity independent of itself the bargain it represents and evidences, so cannot really be a misrepresentation. But in a funny sense a legal contract constitutes the agreement it evidences: sure; the legal accord is an immaterial, intellectual thing, a consensus ad idem that inhabits the incarcerated space that separates us, and it cannot be fully delimited by mortal, combustible paper. But all the same, its written form can hardly contradict it. If the written agreement incontrovertibly says “I must go up” our legal compact can hardly require me to go down; the paper format surely constrains what one can take from, or give to, a contract.

That being the case, there is not really a meaningful sense in which a contract can “misrepresent” the actual accord it represents. or be “false”. There is something faintly, but elusively, paradoxical about this.

What might happen is that a counterparty submits a form that has been superseded, or terminated and thus is but a husk of an ex-contract; one that once existed but now does not. Alternatively, a truly mendacious counterparty might offer up a form that is not really a contract, or even evidence of one, at all: a forgery, or a fraud.

But in those cases, the operating cause of the falsehood is the party submitting the document, not the document offered by way of representation itself, and in each an innocent party is better protected if Section 3(d) Representation does apply.

Audited financial statements

Your adversary may try to crowbar in something like this, to satisfy her yen to make a difference and please her clients with her acumen and commercial fortitude:

“or, in the case of financial information, a fair representation of the financial condition of the relevant party, provided that the other party may rely on any such information when determining whether an Additional Termination Event has occurred.”

This is predicated on the following reasoning: “In publishing the audit, the auditor itself is not making any greater representation than that the statements are a fair representation of the financial conditions. I’m no accountant. I didn’t even write the stupid audit. How am I supposed to know? Why should I give any representation about the content of the audit at all, let alone a stronger representation than the expert? I am not underwriting the work of some bean-counter at Deloitte.”

Fair questions, but they misapprehend what is being asked. The riposte is this: The Part 3 information you must supply is “Party B’s annual audited financial statements.” So the representation we are after is that you have handed over a fair, accurate and complete copy of those audited statements, not that the statements themselves, as prepared by the auditor, are necessarily fair, accurate and complete. To get that comfort, we have the auditor’s own representation of the company’s financial condition, and we don’t need yours.