2017 has been a year dominated by geopolitical uncertainty: lengthy and inconclusive coalition talks in Germany; Catalan secession; and in the UK, the trigger of Article 50 and a hung parliament in June.
Perhaps unsurprisingly, the ICAEW Business Confidence Monitor shows that while business confidence has improved in the fourth quarter of 2017, it remains negative overall. That said, the general trend across UK business remains one of steady growth.
This article will consider trends and developments we expect to impact the mid-market in the coming year.
Potential discontinuation of LIBOR
In July, the chief executive of the Financial Conduct Authority (FCA), Andrew Bailey, advised that market participants should not rely on the availability of LIBOR after 2021. Following 2021, the FCA will no longer compel or encourage panel banks to submit LIBOR, owing to concerns over the lack of a sufficiently active underlying market to support rates.
While the ICE Benchmark Administration has indicated that, notwithstanding the FCA decision, it will continue to publish LIBOR after 2021, a move away from LIBOR is likely and the market will need to identify a suitable alternative to ensure a smooth transition.
There has been some discussion on alternatives already, with SONIA considered a viable alternative for the derivatives market, but there is no obvious alternative for the loan market and there will be work to be done in identifying one. The Loan Market Association (LMA) currently includes provisions in its precedent documents to cater for a situation where LIBOR is unavailable, but these are short term solutions and, as matters progress, there will no doubt need to be changes to existing loan arrangements and to LMA documentation in the future.
Brexit
The terms of Brexit remain as uncertain as ever. A key anxiety for the banking market is whether the UK will retain the ability to passport financial services across Europe without specific authorisation in each jurisdiction. Michel Barnier, chief Brexit negotiator for the EU, has explicitly denied that such freedoms will be afforded to UK institutions post-exit, but there is some question as to whether his assertions have the backing of member states, whose businesses benefit from UK bank lending.
In the event that EU passporting does not continue, there will need to be consideration as to whether a transitional arrangement or grandfathering period can be agreed, allowing UK banks to delay any post-exit restructuring, rather than needing to expedite a solution in the short period before March 2019, which would likely incur much cost and require additional resource.
Regulation and ringfencing
Regulation remains an area of significant impact on the banking market, with 70% of respondents to the recent LMA member's survey "Outlook for the syndicated loan market in 2018" (LMA members' survey) considering it a significant or material impact on business.
Key regulatory considerations in the coming year will include the compliance deadline for the Second Directive on Payment Services (PSD2) in January, one feature of which requires banks to open their systems so that authorised third parties can access customer accounts and perform payments. While the primary focus of PSD2 implementation will be on retail banking, payment services opportunities are also expected to create competition in the corporate space, with new entrants to the payments market seeking to provide added value to corporate customers.
In addition, the implementation of the General Data Protection Regulation (GDPR), in May, will require enhanced transparency on customer data. Not least, the GDPR's stringent requirements on data control is likely to impact back-office management of know your customer and anti-money laundering processes. Back-office processes will also likely see increased work and further complexity as a result of changes to International Financial Reporting Standards (IFRS 9). These changes impact how banks calculate impairment in their loan book and, with the expectation that credit losses will be greater on the basis of the new calculation (under which they will be viewed on a lifetime basis rather than over 12 months), there is market speculation that this may result in pricing increases as those changes flow into pricing formulae.
Perhaps the biggest change to the banking landscape this year will come with the ringfencing of core retail banking operations from wholesale and investment banking, resulting from The Financial Services (Banking Reform) Act 2013. Some customers in the lower to mid-market will find themselves with a change of lender, as new banks are created and relationships moved. With implementation necessary by 1 January 2019, it is expected that changes will begin to come into place in mid-2018.
Transferability
Ringfencing restructuring has also thrown a spotlight onto transferability clauses in loan agreements. In such circumstances, where lenders need to act quickly, particularly in relation to a number of loan assets, any suggestion that the consent of a borrower (or, to a lesser extent, consultation with them) is required could cause an issue.
Increasingly though, these provisions are heavily negotiated by borrowers. Whitelists on transferability have become commonplace, with non-competitor clauses, restrictions on transfers to vulture funds, and blacklists negating transfers to certain entities also featuring in mid-market transactions. Transferability provisions have been underpinned, however, by the fundamental concept that all bets are off where an event of default is continuing, in which circumstances lenders can transfer freely. There is, nevertheless, some suggestion that borrowers are enjoying an increasingly strong position on transferability negotiations in the leveraged buyout space, with the all bets are off position ceasing to be correct in all cases. We may see further negotiations on these clauses yet.
Summary
Regulation will remain a key theme for lenders and they will no doubt be keen for clarity on the implications of the UK's Brexit deal. Responses to the LMA members' survey suggested that there is confidence in the lending market; transactional volume output is expected to be strong with 35% of respondents expecting an increase of more than 10% in the coming year (compared to 25% in 2016's survey).
The climate remains uncertain, but in a world where uncertainty has become the new normal, good borrowers and sponsors are still in a strong position, and deals will continue to be done as the business world is forced to focus on opportunities, notwithstanding a lack of clarity as to the geopolitical landscape.