Events of Default - Pledge GMSLA Provision
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2018 Global Master Securities Lending Agreement (Pledge Version)
Clause 10 in a Nutshell™ Use at your own risk, campers!
Full text of Clause 10
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Content and comparisons
In the 2018 Pledge GMSLA we wave good by to the 2010 GMSLA’s Automatic Early Termination provision — which was only really there to slake the consciences of those worried that netting might not work. In a pledged security arrangement, it is much more old-fashioned and traditional; you’re not really relying on the cute, clever-dickish type of close-out netting that is so warily eyed by ruddy-cheeked German insolvency administrators, no no need for an AET-35 unit.
To compensate, there’s a new “breach of security agreement” Event of Default at 10.1(j). Which is nice.
Summary
To be read with the commentary paragraph 11 (Consequences of an Event of Default) and verily the accompanying Security Agreement, for the way close-out happens under a pledge structure is markedly different from the close-out netting regime of the 2010 GMSLA.
Control over assets and the desirability of a grace period before action
Now there’s a subtle point to look out for here about control over assets. If, as you are likely to have under a 2018 Pledge GMSLA, you have pledged your assets to an escrow agent or third party custodian, the key (for your financial reporting friends and relations) will be that you retain ownership of those assets and, more to the point, they stay outside the bankruptcy estate of your Lender. That’s the whole reason you have the 2018 Pledge GMSLA and not an ordinary title-transfer 2010 GMSLA in the first place — to avoid having to hold capital against the credit risk of your Lenders for the return of excess Collateral.
On the other hand, at the point where you, Borrower, are spiralling into a Lehman-shaped crater in the side of a hill is just the point where jumpy Sir from the Lender’s credit sanctioning team will be hyperventillating, jumping up and down on the spot and shrieking at anyone within earshot how he’d like to “put a cap in yo’ ass” and just go and take those assets away from you and start liquidating them.
There’s — at this particular moment in time, and no other — a little tension in the air. As Borrower you need to satisfy your accountants that the assets really are yours, in case the Lender unexpectedly blows up; the Lender wants quick access to them, and to put aside all ceremony, in case you do.
Should we be unthinkably deep in the tail of improbable market events such that both parties are blowing up simultaneously — the sort of event that Fisher Black would tell you ought to be unobservable in a period several times the life in the universe, but that Nassim Nicholas Taleb likes to remind us does happen once every five years or so — these two contingencies can arrive at once. On the theory, the Borrower’s interest trumps the Lender’s, since the security interest keeps the assets out of range of the Borrower’s other creditors. But that is cold comfort for most credit sanctioners, and besides, they don’t want to hang around waiting when collateral values are pogo-ing around with all the market dislocation.
Thus the dynamics dealing with who can tell the escrow agent to do what at any point in time are — sensitive, shall we say. Nowhere did ISLA’s crack drafting squad™ address this in the document. It can be dealt with by a little grace period, requiring the credit officer to wait, not for long, but for long enough to satisfy a financial reporting officer that there is enough time to settle any debts, call off the dogs and carry sedately on.
Try this:
- Each Event of Default listed in Paragraph 10.1(a), (b) and (c) will become Events of Default only if, within 2 hours following the Lender’s written notice to the Borrower of the event in question, Borrower has not cured the relevant default in full. Upon the expiry of that 2-hour period without such cure, the Event of Default will occur immediately without the need for further notice from the Lender.
I haven’t got a two-hour grace period! Is that a problem?
Those on the 2018 Pledge GMSLA standard form won’t have that grace period of course. Are you sunk? Possibly not, but you may have to undertake a lonely intellectual voyage taking in topics like constructive trust, tracing of assets, and tortious liability on the part of a third party’s agent for misappropriation of assets to get comfortable.