High Court Finds Express Terms Of Sub-Participation Agreement Took Precedence Over Framework Master Agreement

• Published date: 11 July 2023
• Subject Matter: Finance and Banking, Real Estate and Construction, Commodities/Derivatives/Stock Exchanges, Construction & Planning, Fund Finance
• Law Firm: Herbert Smith Freehills
• Author: Damien Byrne Hill, Ceri Morgan, Emily Barry, Ariel Wiebe and Sarah Mccadden

The Commercial Court has found that the express terms of a sub-participation agreement negotiated by the parties took precedence over the terms of a framework master agreement, leaving the lender of record liable to repay the participant's capital investment when the underlying borrower defaulted: Yieldpoint Stable Value Fund, LP v Kimura Commodity Trade Finance Fund Ltd [2023] EWHC 1212 (Comm).

Sub-participation is well-known in syndicated lending. In a typical funded participation arrangement, which is often documented using market standard documents, a lender under a facility agreement subcontracts all or part of its participation in the loan to another party, and so mitigates the risk of default by the underlying borrower while remaining lender of record. Typically, a participant is exposed to the double credit risk of both the borrower and grantor of the sub-participation. However, arrangements can also be very bespoke, and entered into for a variety of reasons.

In the present case, as a matter of contractual construction, Stephen Houseman KC (sitting as a judge of the High Court under the shorter trials scheme) held that the parties used sufficiently clear language to create a hybrid form of sub-participation, which insulated and protected capital while sharing risk and reward on a pari passu basis in respect of income earned on such capital during an agreed fixed term. Accordingly, in circumstances where the borrower had defaulted under the underlying loan, the grantor of the sub-participation was ordered to repay the participant's capital investment, plus interest. This was despite the fact that a framework master agreement provided template documentation which envisaged that any future individual participation agreement would be a conventional pari passu sub-participation (where the participant would assume a capital default risk in respect of the borrower). The defendant lender has applied to the Court of Appeal for permission to appeal the decision.

This decision will be of interest to financial sector clients as it reinforces the principle that there is no fixed concept of sub-participation as a matter of English law or international financing practice, as articulated by the Board of the Privy Council in Lloyds TSB Bank plc v Clarke & Anor [2002] UKPC 27. Using the label of sub-participation is not sufficient for an arrangement to be construed legally as a "typical" funded sub-participation arrangement. The effect of the agreement will depend on the contractual terms agreed. The decision also introduces the possibility of a novel...