LIBOR is being discontinued – what does it mean for you?

You may remember the LIBOR scandal which came to light in 2012. 

LIBOR (the London Interbank Offered Rate), which was meant to a benchmark rate to reference the true cost of short-term lending and borrowing as between financial institutions, was (unknown to the regulator at that time) being fixed between financial institutions. Further investigations showed that there were very few transactions happening which met the criteria for LIBOR benchmarking, and that this rate fixing may have gone back as far as 2003.

The road to phasing out LIBOR began here, and this road ends abruptly on 31 December 2021.

If you have any borrowings which have a component that is subject to a variable rate, it is likely that this rate is calculated by reference to LIBOR.  

In the absence of LIBOR, most facility or loan agreements contain fallback wording which gives the lender the ability to determine an alternative rate to LIBOR in the event that LIBOR is not available. This fallback wording is only intended to act as a stop-gap, and lenders are required to expressly agree alternative floating rate wording and mechanics with their borrowers.

Many lenders and financial institutions have been looking at this for over a year now and as these lenders come to a decision on their new methodology going forward, they will likely be approaching you to seek to amend your loan documentation, if you have any loans with them that are subject to a floating rate.

Most lenders are looking at some iteration of SONIA (Sterling Overnight Index Average) as an alternative variable rate to LIBOR.  SONIA has been around for many years and tracks very closely with the Bank of England Base Rate.  It is calculated as a single overnight rate, unlike LIBOR which is a termed look-forward rate (and can come in various look-forward terms such as one, three, six or twelve months).

Because SONIA is an overnight rate, it requires interest to be calculated differently from LIBOR, and this may also impact on how any financial covenants contained in a facility agreement are calculated.  

Whilst there is some standardisation of the LIBOR transition wording already in the market, some lenders take a more lender-friendly approach than others, and, even though most lenders will be taking a wholesale approach to their loan book, when approached, you will want to look at this transition language carefully in order to ensure that your transition to SONIA from LIBOR does not end up increasing your overall interest costs. 

If you need any help with the phasing out of LIBOR or the new variable rate language that is being proposed in your facilities, please don’t hesitate in contacting the Banking and Finance team at Howard Kennedy, who would be happy to assist.