While banks continue to reduce their exposure to the maritime industry, new entrants are showing in interest in acquiring the better quality loans that have come to market
The buying and selling of a shipping loan portfolio is a complex process. But continuing pressure on banks to reduce their exposure to the maritime industry, and the opportunities presented by asset values at historical lows means that there remains “strong motivation” for banks and new market entrants to agree deals, according to global law firm Norton Rose Fulbright.
Major shipping banks have been withdrawing from maritime industries for some time due to a combination of factors, including a change in the overall strategy of many banks and increasingly stringent regulatory requirements put in place since the Great Recession.
For some European banks, there is the added scrutiny of their shipping loan books by the European Central Bank (ECB), which now has the supervisory responsibility for banks within the Eurozone.
While this has created challenges for the banks, global law firm Norton Rose Fulbright notes in its latest edition of Legalseas that this is also opening up opportunities for other financial institutions and investors to enter the shipping industry at a time when many believe the bottom of the market has now been reached.
“There has also been a number of banks, insurance companies, pension funds and other financial institutions showing in interest in acquiring the better quality loans that have come to market.”
Lloyds Banking Group, Commerzbank and RBS are just some of the banks that have publicly stepped away from the shipping industry. Added to this, a number of major shipping banks have disposed of their loan assets and there are persistent reports of other banks planning to dispose of a shipping loan portfolio or being in the latter stages of completing a loan portfolio disposal.
“The key motivation for a number of banks is simply to unload assets no longer regarded as part of the bank’s ‘core’ business,” says Norton Rose. “Even those banks who continue to lend to the industry have been disposing of exposures to customers with whom the bank does not expect to have a long-term future relationship.”
At the same time, Norton Rose says that there are still a wide range of banks, funds and other financial institutions seeking to acquire exposure to an industry which is perceived as having value at present time.
“This is principally because ship prices have fallen from their pre-financial crisis highs and, in most sectors, have remained in historic terms relatively low,” it says. “Many of these investors are North American funds who are principally interested in distressed or near distressed loans.
“However, there has also been a number of banks, insurance companies, pension funds and other financial institutions showing in interest in acquiring the better quality loans that have come to market.”
There are a variety of legal issues that buyers of shipping loans are concerned about when they look at individual shipping loans or loan portfolios, says Norton Rose, not to mention a number of legal issues associated with transferring a shipping loan and its security from one party to another.
The first stage of a transaction involves due diligence, it says: “The seller needs to establish whether the loan documents allow the loan to be sold and to whom, what consents will be needed from the borrower and other parties and what information the seller is entitled to disclose to a prospective buyer.”
Norton Rose adds that the buyer will want to conduct a more detailed review of the legal documentation and related papers: “The starting point is always the loan agreement itself, the mortgage and other security documents and, where applicable, any intercreditor agreement.
“These documents need to be reviewed carefully to establish that the basic contractual terms are robust, that the security is enforceable and that the contracts reflect what has been represented to the buyer about the principal terms of the loan.”
The buyer will likely want to see any material correspondence that shines a light on recent developments with the loan. For example, the existence of any default or outstanding waiver request. “All of this drives the price the borrower is prepared to offer to acquire the loan and a seller will fully expect to receive requests for this type of information,” says Norton Rose.
Some prospective buyers might dig even deeper and conduct due diligence on the movements of a mortgaged ship during a period of one or two years prior to the sale, for instance. They might track the ship’s movements to check on compliance with sanctions and, where a ship is found to have entered a port in a country subject to sanctions, will ask for evidence that the visit fell within an appropriate exemption or was otherwise authorised. These are all questions that sellers must be prepared to answer.
Sale and execution
Once a price has been agreed, the buyer and seller move forward with documenting the sale and executing the loan transfer. Norton Rose explains that there are two types of sale documentation that are prevalent in the market.
Individual loan sales are customarily documented under standard secondary debt trading documents published by the LMA or, in the US, the LTSA. According to Norton Rose, this documentation has the virtue of allowing the parties to “proceed quickly in accordance with a well-trodden procedural path”.
Norton Rose adds that there is generally very limited negotiation of terms because the documentation itself is so widely used between industry participants trading loans in a variety of industry sectors. However, it notes that while standardised debt trading documents are commonly used for individual loan trades, they are perhaps “less appropriate” for portfolio sales.
It seems that almost all portfolio sellers have preferred to adopt documentation similar to the style used in M&A transactions. “This is not so surprising when you consider that the sale of a loan portfolio is effectively the sale by a bank of a portion of its business and, in some instances, will also involve a transfer of employees and other assets,” says Norton Rose.
A bespoke sale and purchase agreement permits the seller to dictate the process and the allocation of risk. In an auction sale, Norton Rose says that the seller will commonly present their draft sale and purchase agreement terms to all bidders prior to the submission of their best and final bids for the portfolio, ensuring that the seller can compare the offers it receives based on a uniform set of terms.
The portfolio sale and purchase agreement will commonly include a number of protections for the seller, including time limitations and minimum amounts for claims by the buyer for breaches of representations and warranties relating to the assets being sold. “It will also commonly include caps on the amount of the seller’s overall liability for such claims,” adds Norton Rose.
While these types of protections are not available in the standard secondary debt trading documents used for individual loan trades, they have been successfully established as being ‘market practice’ for portfolio sales and also provide for a single financial closing date when the entire purchase price for the portfolio will be paid by the buyer.
Loans that can be fully legally transferred to the buyer on that date will be transferred, while those that cannot will be transferred to the buyer via a funded sub-participation pending completion of the full legal transfer.
“Where the borrower’s consent to a full legal transfer is required, the seller will often not approach the borrower for that consent until the sale and purchase agreement has already been signed and so both parties need to accept that the funded sub-participation may have to remain in place for some time,” says Norton Rose.
“Even if the borrower’s consent is not formally required under the terms of the loan agreement, its co-operation in the transfer process may still be necessary. For example, if a shipping loan has a swap attached to it and the buyer is acquiring the swap, the swap will need to be transferred by way of novation or otherwise terminated and re-established with the buyer. In either case, the active participation of the borrower will be required.”