Cross Default - ISDA Provision
In gory detail
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Cross Default in a Nutshell™ (2002 ISDA edition)
- 5(a)(vi) Cross-Default. If “Cross-Default” applies to a party, it will be an Event of Default if:
- (1) any agreements it (or its Credit Support Providers or Specified Entities) has for Specified Indebtedness become capable of acceleration; or
- (2) it (or its Credit Support Providers or Specified Entities) defaults on any payment of Specified Indebtedness (and any grace period expires);
- And the total of the principal amounts in (1) and (2) exceeds the Threshold Amount.
The difference between the two formulations
Measure of the Threshold
- 1992 formulation talks about an default under an agreement “in an aggregate amount not less that the ... Threshold Amount which results in the Specified Indebtedness becoming due and payable”,
- 2002 formulation talks about default under agreements where the “aggregate principal amount” of the agreements is not less than the Threshold Amount.
This is a seemingly innocuous change intended to clarify a drafting lapse that, for example, of you defaulted on a (relatively small) interest payment on a loan, which then made the whole loan repayable, you could only count the value of the defaulted interest payment to your threshold, when in reality the whole size of the loan is in jeopardy, and really should have been what was counted. It is innocuous, that is, unless you are cavalier enough to include derivatives in your definition of Specified Indebtedness. But if you do that, you've bought yourself a wild old ride anyway.
The language in the second limb broadly replicates this distinction, but it is most certainly rather attention-sapping drafting.
General
This article is specifically about the Cross Default provision in the ISDA Master Agreement. See: cross default for a general discussion of the concept.
Under the ISDA Master Agreement, if the cross default applies, the occurrence with respect to a party of a payment default under, or other circumstance that could result in the early termination of, Specified Indebtedness above an agreed Threshold will give the other party the right to terminate transactions under the ISDA Master.
Specified Indebtedness is usually defined to any claim against a party (by any third party) for borrowed money (e.g. bank debt; deposits etc.) and the Threshold which triggers it is usually defined as a cash amount or a percentage of shareholder funds.
If the cross default applies, the terms of any Specified Indebtedness owed by the counterparty above the Threshold Amount are, in effect, indirectly incorporated into the ISDA Master Agreement. For example, the breach of a financial covenant in a qualifying loan facility, even if not acted upon by the lender of that facility would give a swap counterparty the right to terminate transactions under the ISDA Master even though the ISDA Master itself contains no financial covenants.
Cross Aggregation
The 2002 ISDA updates the 1992 ISDA cross-default provision so that if the outstanding amount under the 2 limbs of cross-default added together breach the Threshold Amount, then that will trigger cross default. Normally, under the 1992 ISDA , cross-default is only triggered if an amount under one or the other limbs is breached.
As per the above, the two limbs are:
- a default or similar event under financial agreements or instruments that has resulted in indebtedness becoming capable of being accelerated and terminated by a Non-defaulting Party
- a failure to make any payments on their due date under such agreements or instruments after notice or the expiry of a grace period.