contractual practice in transition 5 th annual international conference “moscow as an...

Contractual Practice in Transition

5th Annual International Conference “Moscow as an International Financial Center, Derivatives Market in 2011: Breakthrough”

Moscow

Max GutbrodBaker & McKenzie

Reasons for a Full-Scale Review of Contracts

– Parties are not obliged to change currently valid contracts

– A provision can be agreed that require the parties to review the conditions of contracts in an amicable manner

– Positions for revising the conditions of contracts may differ (For instance: will parties that have lesser advantages from netting demand compensation for agreeing to net?)

– In Russia it is more likely than in other countries that further changes in regulation will influence a contract

– It will be difficult to force a party to not prevent registration from happening

Options for Introducing a Netting Mechanism in Previously Concluded Contracts in Accordance with a Recently Passed Law

Existing contractual relations

New + old transactions

subject to netting

New transactions subject to netting

Netting mechanism not agreed upon; old

contract remains in force

New transactions subject to netting

Moment of introduction of netting mechanism

New contract + registration of contract

for all new and old transactions

New contract + registration for all

transactionsNo actions undertaken

Termination by mutual consent or search for grounds for unilateral

termination

Options for Introducing a Netting Mechanism in Previously Concluded Contracts in Accordance with a Recently Passed Law

Existing contractual relations

New + old transactions not subject to netting

Transactions subject to

registration

Transactions on stock exchange

Moment of introduction of netting mechanism

Включить в регистраци

ю

Registration absent Netting possible

Registration impossible

Include in registration as additional contractual

condition

Registration present

No netting possible

Other transactions

Innovation

Netting or No Netting

Absence of netting

Possibility of netting

100

A B75

60

A B40

Cannot change6.9 SC, 1.9 SC

6.9 SC

Bankruptcy B

A B25160

A B115

INSTEAD OF45

A B

Two contracts better?

Unified contract, 1.7 SC

Will it be possible to do “contractual hedging” (i.e. to choose which

contract to apply, depending on the situation)?

– If we assume that:

– ISDA does not make changes to conditions of its transactions, and an ISDA contract is approved

– Russian ISDA is approved only in amended form

Is it possible to avoid

- registration (according to 2.2 SC)

- doubling agreements

through ISDA?

Baker & McKenzie | 7

Situation Consequences For comparison Recommendations

At the Conclusion of the Contract

The SC are changed to improve security

Amending an agreement for taking security alters the timeframes for review in case of bankruptcy

There is no precedent of an agreement that can be amended without the participation of the parties

Limitation of the reference to standard documentation

Form of the contract in the SC

«The parties agree that the use of Electronic Communication Means is deemed as observance of the written form by the parties.» (2.3 SC)

«The parties may enter into transactions without any formalities. After a transaction has been entered into, the Calculation Agent will prepare a confirmation.” (1. Swiss), “…The absence of a Confirmation by one of the Parties shall not affect the validity of a Transaction. In the event of disagreement over the terms of a Confirmation, such disagreement shall be notified immediately to the other Party…” (4.1 French).

Insert obligation of both parties to confirm transactions

Inquire on the factual use of particular means of electronic communication.

Reflect requirements of procedural law

Form of the contract in the General Agreement (GA)

«Party А submits to Party B a signed confirmation by fax, containing all material and further conditions of the transaction.» (2.2 GA)

Disputes between the parties

«The transaction is deemed concluded from the moment the parties reach an agreement on all material conditions.» (2.4 SC)

No comparable rule – under German law an arrangement on what the parties want is sufficient.

No restriction on the freedom of the parties



Drafting technique

Representations and warranties (4. SC)

No representation and warranties within the German and Swiss agreements„Where Transactions have been entered into and not yet been fully settled, the Agreement can only be terminated by either party for material reason. Material reason includes circumstances where payment due has not been received ..” (7. German) (based on the definition of material reason in the law)

Amendments to legal regulation of the transfer of securities as collateral within sale and repurchase transactions.

Misrepresentation (4.4 SC), termination of all relations (5.1 b) SC)

Delete

Missing licenses of subsidiaries «The Party has all licenses...and observes all license requirements and conditions.» (4.6 SC)

Develop standards in the general agreement

Missing precise criteria of „requirement“ of licenses „in general“ and for the conclusion and performance of the GA and Transactions.

«The Party has all licenses required for its activity in general and for the conclusion and performance of the GA and the credit support document.» (4.6 SC)

Bankruptcy «The obligation on effectuation of a payment or delivery arises unless the following events occur: а) violation of an obligation, technical default, factual or potential bankruptcy; b) further grounds for early termination, if the notification has been submitted с) further reason indicated in the GA.The condition set out by the present point shall be a condition precedent.» (3.3 SC) =Unjust enrichment?

No analogies Delete


Violation of contract

Consequences of disagreements «The occurence of any of the following events shall be a ground for early termination of obligations of the parties... Denial by the party of the fact of the conclusion of the general agreement or the transaction, refusal to perform on same, challenging of their validity». (5.1 b) B) SC)

Doubling up Delete

Litigation against a party to the contract

«No suit or any other document against the party is filed with a court or any other state body, that could lead to the invalidity or unenforceability of the general agreement or the credit support document or substantially affect the ability of a party to perform its obligations arising out of it.» (4.9 SC)

Lack of specifics Develop standards in the general agreement


Grounds for early termination

of obligations

(5. SC)

Bankruptcy (5.2 SC)Initiation of bankruptcy proceedings or revocation or temporary suspension of the license with regard to a credit organization (5.2(g), (i)(iii), SC)

Other grounds for early termination (5.3 SC)

- Illegality, - force majeure,- lower solvency due to reorganization,- additional grounds for termination (in the GA or conditions of the transaction).

Termination of obligations (5.1 SC)- Failure to pay or deliver,- other breach of the GA or repudiation of same, including breach of warranties,- violation of obligations under the credit support document,- error or deception, including misrepresentation,- violation of obligations relating to other derivatives transaction,- collection, seizure of property,- cross-default, CANNOT BE CHANGED- limitation on performance of banking operations.

Present in ISDA and SC

Present as separate element only in the SC

Termination

A

C

B


- The party not in default is entitled to early termination of obligations on all transactions (6.2 SC);- Date of early termination: not later than 20 days upon submission of notification;- On the date of early termination or within the shortest period submission of a notification containing the amount of payment due on termination; - Date of payment: date of receipt of notification on the amount of payment due.

- The obligations of the parties cease automatically on all transactions (6.3 SC); - Date of early termination: working day preceding the day of occurrence of bankruptcy;- On the date of early termination or within the shortest period submission of a notification containing the amount of payment due on termination; - Date of payment: date of receipt of notification on the amount of payment due.

- The affected party is obliged to immediately submit a notification indicating the affected transactions (6.4 SC);- Any of the parties or only the unaffected party (in case of decrease in solvency due to reorganization or the occurrence of an additional termination event with only one party being affected) is entitled to early termination of obligations on all affected transactions by submitting a notification, provided the other ground for early termination continues to exist (6.6 SC);- Affected transactions:

- decrease in solvency due to reorganization or the occurrence of an additional termination event – all transactions;

- in case of illegality or force majeure - only the transactions affected by these events;- Date of early termination: not later than 20 days upon submission of notification; - On the date of early termination or within the shortest period submission of a notification containing the amount of payment due on termination;- Date of payment: within three working days from date of receipt of notification on the amount of payment due.

A

B

C


Bankruptcy in a situation where the claim is secured by a pledge

“In the event of termination…The Determining party…determines the current market price…by determination of the amount that would be due upon conclusion by the Determining party of a substituting Transaction, which means a Transaction on conditions, similar to those conditions of the Terminated Transaction that influence the determination of its market price with the same date (dates) of payment or delivery as the Terminated Transaction (hereinafter collectively the amount of substitution of all Terminated transactions – “Close-out amount”)” (6.9 SC)

“Unpaid amounts and any other unperformed obligations, and the damages which are payable, shall be combined … into a single compensation claim” (9. German)

Define novation as legal ground for payment of amounts.

Provide for the right to terminate the contract in case particular directors of certain legal entities are removed

The General Agreement may include additional provisions to the following provisions of the SC :

Early termination of obligations:а) Violation of obligations (5.1 SC):- failure to pay or deliver,- other breach of the GA or repudiation of same,- violation of obligations on the credit support document,- error or deception, including misrepresentation,- violation of obligations relating to other derivatives transaction,- collection, seizure of property,- cross-default,- limitation on performance of banking operations.

„Where Transactions have been entered into and not yet fully settled, the Agreement can only be terminated by either party for material reason. Material reason includes circumstances where payment or other performance due has not been received for whatever reason, by the Party entitled thereto within five Banking Days after the party liable to pay or to perform has been notified of non-receipt of the payment or other non-performance...The Agreement shall terminate, without notice, in the event of an insolvency. An insolvency shall be given if an application is filed for the commencement of bankruptcy or other insolvency proceedings against the assets of either party and such party either has filed the application itself or is generally unable its debt as they become due or in any other situation which justifies the commencement of such proceedings“.( 7.1, 7.2 German)

For the avoidance of doubts on the payment date (date of notification vs. within three working days from the day of notification) expand the number of violation of obligations.



b) Bankruptcy (5.2 SC),с) Other grounds for early termination (5.3 SC):- illegality, - force majeure,- decrease of solvency due to reorganization,- additional grounds for termination (in the GA or conditions of the transaction).

Representations (4.2 SC):- status of the legal entity,- powers, - no violation or illegality,- consents from state authorities,- licenses, - binding character of obligations,- absence of violation of obligations, technical default, bankruptcy, - absence of litigation,- accuracy of information provided.

Inclusion into the agreement (5.3 d) SC)

Terms used in the agreement are defined in the end (in p. 12. SC)

„Terms written with an initial capital letter in the Standard conditions shall have the meaning defined in point 12. of the Standard conditions.“ (1.8 SC)

The enumeration of terms is not included in many agreements.



One party does not support registration

This would be in violation of rights (see 2.2.), but consequences (termination, damages) unclear

Clarify in General Agreement

Partial invalidity No partial invalidity clause German ISDA: 11.1. If any provision of the Agreement is void or unenforceable, the

remaining provisions shall remain unimpaired. Such deficient

provision shall be substituted by a provision which reflects

appropriately the parties’ intent.

Partial invalidity in General Agreement



No obligation to negotiate with a view to accommodate changes

Potential for one party to have the other pay for changes if the contract turned out to be disadvantageous to the one party.

General Agreement: “In cases of changes to the law or substantial changes to court practice, the parties agree to undertake best efforts to adapt the existing agreements so as to achieve an economical result similar to the one they had aimed at when concluding the agreement.”


contractual practice in transition 5 th annual international conference “moscow as an...

Documents

old contract

isda contract

unified contract

forcenew transactions

conditions of contracts

scthe parties

concluded contracts

nettingtransactions