THE ROLE OF THE LAWYER IN EXTERNAL DEBT MANAGEMENT
Lee C. Buchheit
Reference: Document No.5, October 1995)
Any lawyer who has practiced hi the field of international financial law
can recount stories of term sheets for major financings that arrived on
his or her desk with a note reading, "Counselor, enclosed is the term
sheet for the XXX Project that the [Minister of Finance] [Chief Executive
Officer] signed yesterday. Kindly prepare the appropriate documents."
These notes usually call forth a deep, world-weary sigh from the chest
of the lawyer. A common variation of this note, however, can produce an
audible gnashing of lawyerly teeth: "Counselor, enclosed is a fully executed
copy of the credit agreement for the XXX Project signed by the [Minister]
[Chief Executive Officer] yesterday. Kindly transmit soonest your legal
opinion that the agreement is a legal, valid, binding and enforceable
instrument of the [Republic] [Company]."
The first of these messages serves to remind the lawyer that he was not
invited to participate in the negotiation of the terms of the financing
for Project XXX; the second reveals that the client even found it possible
to dispense with legal advice when negotiating the actual credit agreement.
In the case of a borrower, this usually means that the client's review
of the draft credit document - if indeed that review ever extended beyond
the interest rate formula and the repayment schedule - was guided solely
by the light of natural reason.
I. The Fallacies
Why are lawyers so often relegated to an ancillary role in the negotiation
of important external financing arrangements? After all, the medical
profession has had at least some success in persuading people to consult
their physicians before they become ill, on the theory that it is far
easier and cheaper to prevent disease than it is to cure it. Why then
has the legal profession not made similar progress in convincing its
clients of the virtues of preventive legal advice? The reluctance of
some clients to consult their lawyer before making important financial
commitments can result from a misunderstanding about the appropriate
role of legal counsel in external borrowing transactions. Here are some
of those misunderstandings:
Fallacy One: These are business issues
Some clients believe that the sole purpose of a term sheet is to record
the understandings of business people about business issues. Why ever,
they ask themselves, would one invite the views of a lawyer about obviously
commercial matters? The fundamental error motivating this question is
a belief that the universe of potential issues in a financing transaction
divides neatly between business points and legal points. It doesn't.
A great many of the so-called "legal issues" in a financing transaction
are matters of such significance that a lender or a borrower would be
well-advised to reconsider its position on the pricing of the credit
depending on how those legal issues are resolved. For example, should
the interest rate be 7% p.a. with a full tax gross-up, or 8% p.a. without
such a gross-up? The lender might accept a facility fee of 0.50% if
it receives a satisfactory indemnity from the borrower for potential
claims of third parties, but demand a fee of 1 % in the absence of such
an indemnity. A borrower might happily pay an extra 50 basis points
on the interest rate for a loan if it could thereby avoid the inclusion
of tight financial covenants or a paralyzing negative pledge clause
in the credit agreement.
Many of the legal provisions in a standard financial contract can have
pricing consequences for one side or the other. Lenders have always
understood this. The lender's draft of the term sheet or mandate letter
will therefore typically be crystal clear as to the interest rate, fees
and expense reimbursement, while dismissing all other matters with the
phrase "representations, covenants, events of default and jurisdictional
provisions standard for this type of financing." Such a term sheet deliberately
locks-in the financial terms, while allowing the lender full scope to
negotiate the other provisions of the credit agreement in accordance
with the lender's own understanding of standard market practice.
The very best time - often the only time - for the borrower to negotiate
significant legal issues is before a mandate has been awarded. Only
at this stage can the borrower advocate a particular approach to important
legal issues and force the lender to consider whether that approach
really will have pricing consequences for the deal. Until they are clutching
a signed mandate, many lenders will be reluctant to increase their price
quote for fear of losing the business to a competitor institution. A
well-advised borrower may thus be able to win, at the pre-mandate stage,
some important documentation points which would have been rejected by
the lender out of hand had they been raised after the mandate was signed.
Even if the lender does seek a change in the pricing of the credit in
light of the borrower's proposals regarding significant legal issues,
the borrower can at least then make an informed decision about the relative
significance of those issues to it in light of the additional cost they
will entail. Naturally, there are some contractual provisions (such
as the governing law clause) about which many lenders feel so strongly
that they would not be prepared to continue with the transaction in
the absence of a customary treatment of the matter in the credit agreement.
But most issues do not rise to that level. Unless the borrower seeks
legal advice before the mandate or term sheet is signed, however, it
may forfeit its moment of greatest negotiating leverage.
C. Buchheit is a partner hi the New York office of Cleary, Gottlieb,
Steen and Hamilton, an international law firm. Mr. Buchheit practices
in the international corporate and financial areas, including Eurodollar
financial transactions and sovereign debt restructurings. He has
previously served in the Hong Kong, London, and Washington, D.C.
offices of the firm.
Mr. Buchheit is the author of How to Negotiate Eurocurrency Loan
Agreements (Euromoney Publications, 1995) and Secession:
The Legitimacy of Self-Determination (Yale University Press,
1978). He has contributed chapters to several other books and publishes
frequently in professional journals.
Mr. Buchheit serves as an adjunct professor at Columbia University's
School for International and Public Affairs. He is a member of the
Bar in New York, Washington, DC and Pennsylvania.
 This is not
to say that issues cannot be raised with a lender after the mandate
or term sheet is signed. One must recognize, however, that the burden
of persuasion rests heavily upon a party seeking to renegotiate an issue
that has already been addressed in the mandate letter or term sheet.
>> Next: The Fallacies (continued)
| back to Table of Contents