Brexit means Brexit: Banking and Finance
The news came on 23 June 2016: the UK population has voted to leave the European Union. From that day, everything has been said and even more has been written, with all scenarios deeply scrutinised and thoroughly investigated. The reality is that the UK and the EU are both still navigating by sight, due to the fact that they must reply to an impressively wide range of queries from all over the world.
Brexit itself could have positive or adverse consequences. Like any other change, nobody can predict what the future holds, not only for the countries directly involved in this withdrawal but also for third countries investing in, or trading with the UK through their businesses especially in the current, complex economical system.
In a fifteen pages document entitled “Japan’s Message to the United Kingdom and the European Union” the Japanese government set out a deep analysis on Japanese businesses (but it could equally be from any country in the world) expectations from the UK, which can be summarised with the following sentence:
“There are numerous Japanese businesses operating in Europe, which have created 440,000 jobs. A considerable number of these firms are concentrated in the UK. Nearly half of Japanese direct investment intended for the EU in 2015 flowed to the UK […] while benefitting from the single market of the EU, Japanese businesses have contributed to the development of the European economy […] we strongly request that the UK will consider this fact seriously and respond in a responsible manner to minimise any harmful effects on these businesses.”
The following information tries to give a general framework relating to some potential harmful effects Brexit may trigger in the banking and finance market.
Banking & Finance implications in a nutshell
What if Brexit entails increased costs?
Brexit provisions could entail the introduction of new capital adequacy requirements for lenders. This might thus lead lenders to face additional costs in providing their funding and, as a consequence, they could be tempted to cover such costs through the extension of the increased costs provisions in the relevant facility agreements. However it has to be noted that, whether such provisions within the facility documentation cover any additional costs connected to any change of law due to Brexit, lenders should be able to demonstrate, from time to time, the connection between such Brexit increased costs and the on-going provisions of the facility agreement.
Lost your passport rights?
Lenders based in the EU (but outside the UK) might lose their passport rights and their automatically granted permission to provide banking services in the UK (including providing lending) and, as a result, they incur the risk to fall within the scope of the illegality provisions provided under the facility agreements. In order to avoid any potential consequences – and in the hope that the UK government will adopt measures enabling banks to continue to provide their services – lenders may consider the possibility to insert provisions authorising a designated affiliate to succeed within the agreement in such case of illegality.
Material Adverse Effect
Neither the vote nor any Brexit provisions constitute a Material Adverse Effect itself. In the unlikely case that Brexit might cause significant difficulties to a borrower to perform its obligation under the facility agreement, this could trigger a Material Adverse Effect, but this will depend on the actual provisions provided on the relevant facility agreement.
Good to know
Significantly variations in the currency exchange could potentially affect multi currency transactions, which do not provide specific risk factors or indemnity provisions.
Changes to the English law governing securities are not expected and therefore Brexit should not have a significant impact on the security packages, however, on-going discussions are occurring whether, in future, English law will remain the first choice as governing law for financing documents (in particular if the transaction is not a multi jurisdiction transaction, but it is involving only one other EU country). Given the unclear outcome of the negotiations, which will occur in the next few years, there could be a trend in having transactions regulated only by the law of the borrower’s jurisdiction in order to avoid any uncertain enforcement scenario in case of default or breach of contract.
Finally certain minor amendments should be considered in order to update the relevant documentation after Brexit and ensure that the definitions will still work (i.e. changes in the definition of VAT, or references to bail-in provisions).
Passporting is the biggest benefit for financial services firms operating within the EU framework and will be the biggest risk after Brexit. UK financial markets regulation is influenced by a wide range of EU directives (as of today directly applicable in UK) such as the Markets in Financial Directive (MiFID), the Undertakings for the Collective Investments in Transferable Securities (UCITS), Packaged Retail Investment and Insurance Products Regulation (PRIIPS) or the Alternative Investment Fund Managers Directive (AIFMD).
In a statement dated 24 June 2016, the FCA clearly stated that these regulations will remain applicable until any changes are made, which will be a matter for Government and Parliament. Therefore, until Brexit comes into effect, the UK must continue implementing EU regulations and directives and any variation on this regulatory framework seems unlikely. This will ensure equivalence between UK and EU financial markets (even if a full implementation is going to be challenging, due to the differences in EU regulations between the EU and non-EU countries) and could be read as an evidence that FCA is considering that the obtaining of such equivalence is possible, trying not to lose all benefits arising from the single capital market project, such as the economies of scale of the single market, and the possibility to offer a wider range of financial products and services to more investors, at a lower price.
However, it has to be noted that there is no certainty that such equivalence is recognised until (or even after) the Brexit negotiations have concluded, even if ESMA has recently published advice that there are no significant obstacles impeding the application of the passport to certain non-EU countries.
Another important answer, inter alia, which is still under consideration, could be the entering into the EEA Agreements, but it has to be noted that this has still a long way to go, due to the fact that the incorporation of the EU financial services framework in the EEA Agreements is still in progress and certain EU Regulations/Directives are yet to be incorporated (i.e. AIFMD).
“Brexit means Brexit” is the slogan Theresa May keeps repeating, and whatever this might actually mean in practice, it is fair to say that there are currently no significant possibilities that the UK might reverse its decision to leave the EU (talks of a second referendum are losing momentum). However, no further actions are expected until at least next year. When exactly the UK might start the process that will lead to the Brexit is still veiled by uncertainty, and given the impact that Article 50 will have, it is comprehensible and understandable that the UK will take all necessary time to define a very detailed action plan before pulling the trigger.