LMA Intercreditor Agreement – Structural Subordination – 2014
In November 2014, the LMA published a template REF intercreditor agreement (ICA). This template presupposed a lending structure whereby the senior lender would lend to the entity directly holding the relevant security property and the mezzanine lender would lend to a holding company further up the borrower's corporate structure. The senior and mezzanine lenders would then hold "common" security from the senior borrower and the shareholder in the senior borrower and the mezzanine lenders would hold "mezzanine only" security further up borrower group chain.
Whilst this was a helpful development for players in the REF space, the base lending structure upon which the ICA was created did not reflect the more simple structure prevalent in small to mid-sized transactions where typically both the senior and mezzanine lenders would lend to the same borrower entity and then agree to contractual intercreditor arrangements. As a consequence, the ICA was often considered to "over-the-top" and in need of substantive amendment for the small to midmarket.
LMA Intercreditor Agreement – Contractual Subordination - August 2016
Accordingly and in response to calls from a variety of players in the small to mid-sized real estate finance space for a simplified ICA reflecting this more simplified structure, in August 2016, the LMA published a second ICA, aimed at small to midmarket transactions.
The 2016 ICA presupposes the following lending and security structure.
As you can see from the above, unlike the 2014 ICA, the 2016 ICA does not incorporate a concept of mezzanine only security, only common security.
As a consequence of this, the 2016 ICA also removes the ability of the mezzanine lenders to effect an acquisition through enforcement of the mezzanine only security. This leaves only two options in the 2016 ICA for potential mezzanine enforcement rights, being (i) the option for the mezzanine lenders to purchase the senior security and (ii) enforcement in certain limited circumstances. The 2016 ICA continues to anticipate that mezzanine lenders with want the ability to cure an event of default under the senior facility which is designated as a "remediable event of default".
Save for these changes, the 2016 ICA remains materially the same as the 2014 ICA and in particular:
- the 2016 ICA is still quite complicated for the small to mid-sized market and may prove not to be particularly popular, particularly where senior / mezzanine arrangements are commercially more skewed in favour of the senior lenders and concepts such as mezzanine buy out rights, mezzanine enforcement and cure rights are not on the table commercially; and
- the 2016 ICA does not incorporate priority and subordination arrangements in respect of intercompany debt, rather it presupposes that there will be a separate subordination deed for such debt. Accordingly, if the parties wish for there to be one document governing all subordination and priority arrangements between senior lenders, mezzanine lenders and intercompany lenders (which is often more desirable in small to mid-market transactions), provisions governing intercompany debt will need to be incorporated into the draft.
Overall, from a small to mid-markets perspective, any simplification to the 2014 ICA is welcome, however, whether the 2016 ICA proves to be popular as a base document will still depend on the commercial bargaining power of the senior and mezzanine lenders, the particular lending structure being employed and other bespoke factors relevant to the particular transaction.
We will be following up in a couple of weeks with a further market update following the CREFC conference.