Geopolitical tensions and markets disruption: Key areas for consideration for trustees in the Gulf region

In our recent market updates, we examined how geopolitical tensions and incidents of market disruption are capable of introducing significant uncertainty into regional financial markets and, in that context, we identified, considered and discussed a range of key areas for companies to focus on from a risk and financial markets perspective. These included, among other, ongoing disclosure obligations, events of default and financial covenant management, including proactive steps both borrowers and capital markets issuers may wish to consider taking in the wake of a potential market disruption.

In this update, we turn to considering the position of the representative of the investors, typically identified as trustees or, in Islamic finance transactions, delegates (hereinafter referred to as trustees). Trustees are participants whose role becomes both more demanding and more consequential during periods of geopolitical and market disruption. This note considers the key issues that trustees should be alive to in the context of existing transactions.

1. Key considerations for existing transactions

In ordinary market conditions, trustees operate largely in the background. Payments are made on time, financial covenants are observed, compliance certificates are regularly delivered, and the role of trustees is predominantly an administrative one. Times of market disruption, particularly if  companies begin to show signs of financial stress, can change that picture entirely with trustees moving from a seemingly peripheral to a more central role in a transaction. Trustees may need to consider practical questions like: has an event of default occurred? Is it obliged to notify investors and if so, when? Should it seek instructions from investors in that transaction? When trustees receive such instructions from investors, they will have to consider if those instructions are valid and binding. 

Whilst on its face still primarily an administrative role, in such circumstances, trustees hold a position of considerable responsibility, and the decisions they are called upon to make may have far-reaching financial consequences for multiple parties, including trustees themselves. It is therefore important that trustees are aware of their obligations under the transaction documentation.

Some key considerations for trustees at times of market disruption are set out below:

• No duty to monitor

In our previous updates, we considered the benefits of companies proactively monitoring covenant compliance across their financing arrangements at times of market and business uncertainty. Conversely, trustees are under no duty to monitor covenant compliance and, pursuant to the terms of the transaction documentation, should expect to be notified of any potential breaches. 

However, in practice, given the publicity surrounding recent events of disruption in the Middle East, trustees may become aware of events giving rise to potential breaches prior to being notified by companies. At that stage, merely relying on the provisions of the transaction documents excluding a duty to monitor may not be the right approach. In addition, trustees may also find themselves receiving queries from investors (or those purporting to be investors) seeking further information or requesting that certain actions be taken in response to developing events. Upon receiving any such investor communication and before determining its next steps, however, trustees should first take reasonable steps to verify the identity and standing of any such party purporting to so engage with them. 

• Acting in the interests of investors

A trustee’s primary obligation is to act in the interests of investors as a whole and they are bound to exercise their powers and discretions with that obligation firmly in mind. At times of market disruption, trustees may face competing pressures from different investors, who may be a diverse group spanning multiple jurisdictions with opposing interests and appetites. Trustees are not permitted to prefer the interests of one group over another and must act in the interests of the investors (or a class of investors) as a whole, having regard to what is objectively in their collective interest rather than what any individual investor is demanding. Trustees must also exercise genuine independent judgement and cannot simply defer to the majority of vocal or powerful investors, nor can they act as a conduit for the company’s preferred outcome. To make such a decision confidently, trustees should take appropriate advice, and be able to demonstrate that their decision was made in good faith and on a properly informed basis.

Equally, trustees may face pressure from companies, who may be seeking to take steps to mitigate the financial impact of the disruption by relaxation of covenants or waivers of breaches. In navigating such requests, it will be important for trustees to satisfy themselves that they have all the relevant factual information and that they can rely on the accuracy and completeness of any relevant information received from companies.

• Certificates, confirmations and opinions

Trustees are typically entitled under the terms of the trust deed to request companies to provide information and to rely upon certificates and opinions provided by companies and other transaction parties as conclusive evidence of the matters stated therein, without being required to make further enquiry. This includes compliance certificates delivered by a company’s officers, confirmation from the principal paying agent that payments have been received, or legal opinions from legal counsel. Trustees should ensure that any information provided to them by transaction parties is provided in specified formats, specifically referencing the relevant clause in the transaction documentation which enables them to rely on such documentation. 

• Interpretation of provisions in documentation

Provisions relating to default, enforcement and distress can sometimes receive less forensic attention than the commercial terms. At times of greater uncertainty, documentation may be re-examined and could give rise to disagreement between companies and investors, or even between investors themselves. Trustees may be asked to form a view and such a view could have immediate practical consequences. 
In taking any such view, it is essential that trustees seek independent legal advice or seek an opinion of counsel. Where such disagreements cannot be resolved by reference to the existing terms of the documentation, it may become necessary for the parties to consider whether formal amendments to that documentation are required.

• Amendments and waivers

During times of market disruption, breaches or potential breaches of covenants may arise which could require waivers or amendments to documentation. 

Trustees may experience pressure from companies to take steps to avoid breaches by amendments or to waive breaches without the consent of investors. The terms and conditions of the securities generally give trustees some discretionary powers that may facilitate the implementation of the legal options pursued by companies (e.g., financing, refinancing, waivers) without need of directly involving the investors. Such discretionary powers, however, are typically limited to waivers or amendments which are not, in the opinion of the trustee, materially prejudicial to the interests of investors (as a whole). Trustees may not be able to exercise such discretion and so obtaining the consent of the investors may be required. 

In periods of market instability in particular, trustees will need to be able to act quickly and robustly in determining whether they are able to exercise their discretion or whether they needs to seek investor instructions. In order to exercise their discretion, it is essential that trustees seeks independent legal and often financial advice.

• Investor meetings

A noteholder meeting may be convened by trustees, where they wish to, or are required to, seek directions from investors; or by companies, where they are looking to launch a consent solicitation process to seek investor approval for a proposed amendment or waiver. In addition, companies or trustees will also be required to convene investor meetings if requested to do so by the requisite proportion of investors. In either case, trustees must ensure that the relevant procedural requirements are followed and that their own position is adequately protected.

Where trustees convene investor meetings and act in accordance with a resolution duly passed by the requisite majority of investors, they are not exercising their own discretion but rather giving effect to the collective decision of the investor body, and will therefore generally be protected from liability for any consequences flowing from that action, provided always that meetings were properly convened, resolutions were validly passed, and trustees acted within the scope of their powers in implementing them. 

• Indemnification

As a final key consideration, trustees should ensure that they have adequate indemnity protections in place before taking any action. Most trust deeds provide for an indemnity from companies to trustees in respect of any costs, charges, liabilities, and expenses that they may incur in acting as trustee under a trust deed. Generally such indemnity would be seen as providing sufficient protection but it will be important for trustees to assess the risks that may arise from the action they are asked to consider taking. Most trust deeds expressly provide that trustees are not required to expend or risk their own funds or otherwise incur any financial liability in the performance of their obligations and therefore trustees are entitled not to take any steps if they are not properly indemnified.

2. Final Remarks

Trustees have a valuable and critical role to play in helping companies and investors navigate the transactional and documentation complexities that may arise in periods of market disruption. Trustees may be asked to take challenging decisions and could face pressure to accommodate the sometimes conflicting interests of investors and companies. Robust process, early engagement with legal counsel and a clear understanding of the applicable law across all relevant jurisdictions is essential.

White & Case LLP has the experience and the global reach to assist on any of the issues identified in this briefing – and where specialist input is required beyond legal advice, we are well placed to connect our clients with the appropriate advisers.

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_{This article is prepared for the general information of interested persons. It is not, and does not attempt to be, comprehensive in nature. Due to the general nature of its content, it should not be regarded as legal advice.}

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