Template:Severability boilerplate capsule

While a severability clause seems counterproductive in most arms’ length, symmetrical commercial settings, there is one where it is not: an asymmetrical commercial setting. A loan. Here, day one the lender ponies up a lot of money, and has his posterior in the proverbial sling until the last day, when the borrower gives the money back. If the contract becomes tangentially illegal in the meantime, then cancelling it would be a really bad outcome for the bank.

Let’s say the bank lends you a hundred million dollars for a year. The terms of the loan are that you must repay in a year, together with fixed interest in the meantime and, on the scheduled repayment date the bank must deliver you a single bowl of M&Ms with the brown ones removed. As a gesture of fun and goodwill, and to reflect what a hip outfit the bank is. You could imagine Northern Rock doing this sort of thing.

Everyone happy, right?

Now: what should happen if, unexpectedly, a new government is enacted on a platform of irrational hostility to eighties metal bands, and they legislate for it to be illegal — punishable by imprisonment — to doctor M&Ms? Without a functioning severability clause, the contract might be void.

Absurd, you might say: this is obviously a meaningless formality. The parties would at once get together and agree to waive the need for the M&Ms. Plainly, no-one is materially affected.

But here is the thing. Imagine the borrower is a hedge fund. One of the especially venal, rapacious, locusty ones. It has just had a free option drop into its lap in the shape of a compelling legal reason it might not have to give back a hundred million dollars. God forbid it might opportunistically claim ~ to its horreur, naturally ~ that this contract cannot now be honoured, on pain of imprisonment. It will wheel out its compliance officer, who will mutter about formal compliance with rules and the firm’s duty to its shareholders. Or its investors. It will not be hard for it to contrive reasons that, even though it would love to give the money back, it just can’t.

Those who don’t believe this are cordially invited to consider the stupid banker cases: that is exactly what the hedgefunds did to Citi on the Revlon loan debacle.