What are you selling?

Feature | 13 April 2017

Sellers of debt could open themselves up to a world of trouble
if they over-promise on how they represent the assignability
of their debts to financiers and insurers, warns Robert Parson

Products which accelerate the use of receivables have been part of the essential framework of international trade for many years, but the period since the 2008 crash has undoubtedly expanded the variety of products themselves and the market seeking to use them. While traditional receivables purchase, factoring, forfaiting and discounting structures remain popular, the growth of supply chain finance products and the successful use of securitisation models have given even greater access to much needed funding.

Whatever label is attached to the financial structure concerned, there are however some common threads to these arrangements. The overriding principle which makes receivables financing work in terms of making available funding at sensible rates is that the receivable as an asset class is capable of being either transferred absolutely, or the benefit of it is capable of being packaged in a way that makes it attractive from a credit, risk and regulatory perspective to the financier.

Absolute or part assignment?

English law has a fairly liberal approach to the principle of selling future receivables. Sellers of debt can either sell the debt outright (an absolute assignment known as a 'legal' assignment where the full amount of the debt is assigned and notice of the assignment is given directly to the debtor) or part of a debt can be sold under an 'equitable' assignment. The second of those techniques can be popular if the purchaser does not wish to take on the full burden of collection and recovery, or wants the seller to keep 'skin in the game'.

Documentation, as with any structure that becomes commonly used, has developed a fairly standardised format and, inevitably, there is some distance in time between today's users of the documentation and those that designed and built the various legal agreements in circulation in the market, and understood the reason for the inclusion of each provision. Hidden in the mass of boilerplate that accompanies these agreements are some fairly fundamental provisions, without which the buyer of receivables would usually not be happy to proceed.

A new case in point

The perils of ignoring or underestimating the impact of some of those provisions was highlighted in the recent English High Court case of National Bank of Abu Dhabi PJSL v BP Oil International Limited [2016] EWHC 2892.

BP had a contractual relationship with Société Anonyme Marocaine de L'Industire de Raffinage (SAMIR.) In 2013, BP and SAMIR had entered into a master crude oil sale and purchase agreement under which BP would sell and ship to SAMIR cargoes of crude oil. The terms of the BP/SAMIR agreement incorporated the then current BP General Terms and Conditions for Sales and Purchase of Crude Oil (2007 edition), which contained an express limitation on the ability of the parties to assign. The term provided that:

"Section 34 - Limitation on Assignment:

Neither of the parties to the Agreement shall without the previous consent in writing of the other party (which shall not be unreasonably withheld or delayed) assign the Agreement or any rights or obligations hereunder. In the event of an assignment in accordance with the terms of this Section, the assignor shall nevertheless remain responsible for the performance of the Agreement. Any assignment not made in accordance with the terms of this section shall be void."

This provision changed the English law starting point of freedom to assign to one where written consent would be required and with the consequence that any purported assignment made without consent would be unenforceable. On 5 August 2014, BP shipped just under 100,000 MT of crude to SAMIR with an invoice value on 29 August 2014 of US$72,507,215.39 payable (unless maturity was extended) in January 2015. BP initially de-risked this deferred payment by entering into a Payment Guarantee Agreement with National Bank of Abu Dhabi (NBAD) on 12 August 2014, covering 95% of the invoice sum.

This form of credit risk mitigation, popular with the oil majors, does not involve up-front funding by the financier but silently guarantees payment in the event of a payment default. Hybrid versions of the 'silent payment guarantee' will often incorporate a 'without recourse' discounting option as well. On 3 September 2014, the payment guarantee agreement was replaced by a purchase letter which did provide immediate 'without recourse' funding to BP in return for an assignment of 95% of the debt.

The terms of the purchase letter contained provisions that sought to provide NBAD with direct or indirect rights over the underlying debt in the event that an assignment failed for any reason. However, at clause 5 of the purchase letter, BP signed up to the following warranty and representation:

"b) [BP] is not prohibited by any security, loan or other agreement, to which it is a party, from disposing of the Receivable evidenced by the Invoice as contemplated herein and such sale does not conflict with any agreement binding on [BP]; …"

Clause 7 of the Purchase Letter went on to entitle NBAD to reimbursement of the discounted purchase price with interest in the event that the specific representation at clause 5 was found to have been breached. BP at no time sought the consent in writing of SAMIR to assign the debt pursuant to Section 34 of BP's General Terms and Conditions.

BP has its fingers burned

NBAD paid a discounted value of US$67,662,173.54 based on a January 2015 maturity of the invoice, though this date was subsequently amended on a number of occasions, with SAMIR being granted payment extensions through to the end of November 2015, subject to the payment of an extra discounting fee by BP to NBAD. However, before that final payment date came around, SAMIR was found to be in an insolvency process in Morocco. NBAD asked BP to provide it with a legally valid assignment that would enable it to participate in the Moroccan insolvency proceedings but by early December 2015, BP had acknowledged that they were in fact unable to do so without SAMIR's consent to the assignment.

NBAD sued for reimbursement under clause 7 of the Purchase Letter on the basis that the representation as to assignability at clause 5 was plainly false.

BP argued in their defence that the route by which NBAD enjoyed the 'fruits' of BP's performance of the crude oil sale and purchase contract was actually immaterial - be it assignment or indirect recovery through BP - so long as a route of some sort either direct or indirect in fact existed. However, the judge said that the existence of more than one method of making a recovery did not alter the fact that assignment (and the assignability of the debt) was at the core of this deal, and assignment of the debt was in the event not freely available as represented by BP in clause 5 of the purchase letter.

The court held that because of Section 34 of BP's General Terms and Conditions, the representation at clause 5 of the purchase letter had been breached. The consequence of that was that NBAD was entitled to be reimbursed by BP the sum of US$68,881,854.62, plus interest.

Have any new lessons been learned?

The result of the case among the trade finance community has not been a rush to check that such non-assignment clauses exist in underlying contract documentation - they invariably do - but a reality check on how the various receivable financing options can navigate this obstacle to comply with the financier's requirements. The judge helpfully spelled out the basic principles of prohibition of assignment under English law:

  1. There is nothing contrary to public policy in the inclusion of a term limiting or prohibiting assignment of a debt. This remains the case notwithstanding the awaited draft regulations from the British government on the nullification of prohibition of assignment clauses.

  2. An assignment purported to be made in breach of a limitation/prohibition clause is ineffective in passing any rights to the assignee.

  3. If a limitation of assignment clause requires consent and that consent is not sought prior to the assignment being made, it is irrelevant that the consent could not be unreasonably withheld.

  4. Part (as opposed to the entirety) of a debt can only ever be the subject of an 'equitable' rather than a 'legal' assignment.

  5. An equitable assignee can give notice to the debtor of the assignment and achieve through that notice both priority over other equitable assignees and the right to bring proceedings in its own name.

The key to dealing with this speed-bump in taking on receivables finance is relatively simple:

  1. If the sale of the receivable is specific - for example a one-off debt - as in the case of NBAD v BP, then either the representation or the prohibition/limitation needs to be deleted. There is no extensive due diligence needed to establish whether a potential problem exists. In practice, given the post contractual timing of most financings as against pre-existing trading relationships, it will be the representation as to assignability that must move or be modified to include some degree of qualification. In practice the financier must probably accept an express entitlement only to an indirect route to recovery if he is to finance this type of debt. In the longer term, traders will need to rethink the hard edges of these assignment limitation clauses and allow themselves space for assignment for financing purposes as firms increasingly do.

  2. If the sale of debt is of a continuing flow of invoices based on different (and perhaps uncontrollable) contractual terms, then the terms of the financing will need to reflect the potential for debts to become ineligible for the purposes of the debt purchase agreement or facility, without that triggering an outright default but requiring a case by case repurchase of the debt with interest by the seller of the debt. However, to prevent that 'cash back' provision becoming a cash-flow nightmare, traders do need to understand the composition of their contract and debt book. Again, not an impossible due diligence exercise. A small percentage rebate of insignificant value is unlikely to cause problems but some rigour in contracting standards is needed when using this option to prevent nasty (and financially embarrassing) surprises.

  3. If consent is a requirement to assignment, you do have to ask for it, however unreasonable (if a reasonableness qualifications applies) a refusal might be.

  4. There is no such thing as a 'legal' (as opposed to equitable) assignment of less than 100% of a debt. That has important ramifications if the derisking of a particular debt or accumulation of debts involves more than one risk taker. Your banker and your insurer for example cannot both own the same debt outright at the same time, even if they are both at risk for significant portions of it under the financing/credit insurance arrangements you have entered into. If you are going to have a three-cornered arrangement of that sort, pick banks and insurers that you think will get on. Not all of them do.

The future

The Small Business, Employment and Enterprise Act 2015, once its powers to nullify bank on assignment of debt are fully implemented by government, will ultimately provide some relief to this sector, but introduction of the new regulations has clearly dropped back in the order of political business priorities for the time being, as the British government grapples with the complexities of Britain's Brexit negotiation.

Once in force, if the resulting regulations do, as promised, apply to all businesses big and small, then the impact on the sector may be significant. Concerns about how to clarify the position of charges ('security assignments') over receivables (where a negative pledge against other security assignments will often be a requirement of the financing bank) and other mechanics, such as how the new rules might apply to non-UK entities entering into English law contracts, still delay implementation. Other jurisdictions, including the US, Canada and some European jurisdictions, have already moved to limit the impact of non-assignment clauses, but it remains to be seen whether the uncertainty over Britain's final Brexit settlement will push this particular measure into the legislative sidings.

In the meantime, traders and sellers of debt should be careful not to over-promise in terms of how they represent the assignability of their debts to financiers or insurers. 'No assignment' really does mean exactly that for the time being.

Robert Parson is a partner at law firm Clyde & Co

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