Covid-19 related payment breaks
A variety of legislative and non-legislative loan repayment moratoria measures (“Payment Breaks”) have been introduced in different jurisdictions throughout Europe to assist borrowers affected by the Covid-19 pandemic.
The European Banking Authority are supportive of these measures and have issued guidelines on 2 April 2020 (amended on 25 June 2020) advising credit institutions on the prudential treatment of legislative and non-legislative moratoria on loan payments introduced in response to the Covid-19 pandemic and applied before 30 September 2020.
Payment Breaks are likely to have an effect on the performance of different types of asset-backed securitisations, including residential mortgage-backed securities (RMBS), commercial mortgage-backed securities (CMBS), auto finance-backed securities (Auto ABS) and collateralised loan obligations (CLOs). Payment Breaks may lead to significant cash flow issues for existing securitisations as a result of liquidity issues experienced by underlying borrowers being passed through to ABS issuers.
The impact of Payment Breaks on the performance of a securitisation’s underlying asset pool may require announcements and / or notifications to be made by an ABS issuer to the market. We have examined below the obligations of ABS issuers to make such disclosure under three important pieces of EU capital markets legislation.
We note that, to date, there appear to have been relatively few announcements made by ABS issuers with debt securities listed on Euronext Dublin regarding the impact of Payment Breaks on the performance of their underlying asset pool. Perhaps it is too early in the payment cycle for the impact of Payment Breaks to have become apparent.
Three pieces of EU capital markets legislation may require ABS issuers to make some form of disclosure about the impact of Payment Breaks on the performance of their underlying asset pool.
Market Abuse Regulation
ABS issuers whose securities are traded on a regulated market (such as the regulated market of Euronext Dublin) or a multilateral trading facility (such as Euronext Dublin’s Global Exchange Market) are obliged by Article 17 of the Market Abuse Regulation (Regulation (EU) No 596/2014) to inform the public as soon as possible of inside information which directly concerns that ABS issuer. Inside information in this context means information of a precise nature, which has not been made public, relating, directly or indirectly, to one or more issuers or to one or more financial instruments, and which, if it were made public, would be likely to have a significant effect on the prices of those financial instruments or on the price of related derivative financial instruments. The information must be information that a reasonable investor would be likely to use as part of the basis of his or her investment decisions.
Subject to the limited circumstances set out in the Market Abuse Regulation permitting issuers to delay disclosure to the public of inside information, ABS issuers who are aware of information about the performance of their underlying asset pool which constitutes “inside information” for the purposes of the Market Abuse Regulation should inform the public of this information as soon as possible.
ABS issuers are obliged by Article 18 of the Market Abuse Regulation to draw up and maintain “insider lists” of all persons who have access to inside information and who are performing tasks for the ABS issuer through which they have access to inside information. Certain information is required to be included on an insider list, including the identity of any person having access to inside information, the reason for including that person in the insider list and the date and time at which that person obtained access to inside information. ABS issuers are obliged to update their insider lists promptly after certain events, including:
- where there is a change in the reason for including a person already on the insider list; and
- where there is a new person who has access to inside information and needs, therefore, to be added to the insider list.
ABS issuers should review their insider lists and consider whether any updates to such lists are required in light of the introduction of Payment Breaks across their underlying asset pool and the impact of Covid-19 related factors on the price of their listed securities.
Article 7 of the Securitisation Regulation (Regulation (EU) 2017/2402) imposes transparency requirements (the “Securitisation Regulation Transparency Requirements”) on originator, sponsor and securitisation special purpose entity (“SSPE”) participants to transactions that are “securitisations” for the purposes of this legislation.
ABS issuers (in their capacity as an SSPE for the purposes of the Securitisation Regulation) typically agree to be the designated reporting party for the Securitisation Regulation Transparency Requirements. In such cases, the information that an ABS issuer is obliged to make available “without delay” to the holders of a securitisation position, to any applicable competent authorities and, upon request, to potential investors includes:
- any inside information relating to the relevant securitisation that the originator, the sponsor or the ABS issuer is obliged to make public in accordance with Article 17 of the Market Abuse Regulation (Article 7(1)(f) of the Securitisation Regulation); and
- where Article 7(1)(f) of the Securitisation Regulation does not apply, any significant event such as a change in the risk characteristics of the securitisation or of the underlying exposures that can materially impact the performance of the securitisation (Article 7(1)(g) of the Securitisation Regulation). The list of significant events in Article 7(1)(g) of the Securitisation Regulation is not exhaustive.
It is not entirely clear in what circumstances Article 7(1)(f) of the Securitisation Regulation “will not apply”. However, the European Securities and Markets Authority (“ESMA”), in its opinion on the draft technical standards on disclosure requirements under the Securitisation Regulation, is of the view that Article 7(1)(g) of the Securitisation Regulation is intended to ensure that any securitisations falling outside the scope of application of the Market Abuse Regulation nevertheless have obligations to make available information on significant events, ie the obligations under Article 7(1)(g) of the Securitisation Regulation are an alternative to the inside information reporting obligation under Article 7(1)(f) of the Securitisation Regulation and the Market Abuse Regulation rather than the two obligations being cumulative.
ESMA believes that both Article 7(1)(f) and Article 7(1)(g) of the Securitisation Regulation require disclosure of information following an event that would be likely to materially impact the performance of the securitisation as well as have a significant effect on the prices of the tranches / bonds of the securitisation. ESMA considers that “changes to the underlying exposures and investor report information” constitute such an event.
The imposition of Payment Breaks affecting a securitisation’s underlying asset pool may constitute a “significant event” for the purposes of Article 7(1)(g) of the Securitisation Regulation. Payment Breaks may change the risk characteristics of the underlying asset pool and materially impact the performance of the securitisation, for example, where the Payment Breaks lead to a shortage of cash generation by the underlying asset pool resulting in the ABS issuer being unable to pay amounts due to investors on a payment date.
Even where Payment Breaks affecting a securitisation’s underlying asset pool do not impact on the ABS issuer’s ability to pay amounts due to investors on a payment date, an overall decline in the performance of a securitisation’s underlying asset pool may automatically trigger certain features in a transaction’s structure, such as:
- the activation of credit enhancement features such as (i) “cash traps” diverting excess cash flows from the junior noteholders into a reserve account or applying such cash flows to deleverage the senior notes, or (ii) the utilisation by an ABS issuer of liquidity facilities provided by a bank; and
- the termination of reinvestment features which allow an ABS issuer to replenish their underlying asset pool with new assets.
The triggering of these types of features may in itself constitute a “significant event” for the purposes of Article 7(1)(g) of the Securitisation Regulation which requires the ABS issuer, as the designated reporting party, to make information available “without delay” to the holders of a securitisation position, to any applicable competent authorities and, upon request, to potential investors.
ABS issuers that publish annual financial reports and half-yearly financial reports in accordance with the Transparency Directive (Directive 2004/109/EC) must include in such reports a management report and interim management report respectively.
Management reports should include a fair review of the development and performance of the ABS issuer’s business and of its position, together with a description of the principal risks and uncertainties that it faces, and a statement made by the persons responsible within the ABS issuer that the management report includes a fair review of these points. Interim management reports should include at least an indication of important events that have occurred during the first six months of the financial year, and their impact on the condensed set of financial statements which comprise part of the interim management report, together with a description of the principal risks and uncertainties for the ABS issuer for the remaining six months of the financial year, and a statement made by the persons responsible within the ABS issuer that the interim management report includes a fair review of these points.
ESMA has published two separate statements on the impact of the Covid-19 pandemic on issuers’ Transparency Directive obligations:
- a statement on actions to mitigate the impact of Covid-19 on the EU financial markets regarding publication deadlines under the Transparency Directive published on 27 March 2020. ESMA noted that issuers may be prevented from fulfilling their Transparency Directive obligations due to the Covid-19 pandemic. ESMA stated that it expects national competent authorities (such as the Central Bank of Ireland) during this specific period not to prioritise supervisory actions against issuers in respect of the upcoming deadlines set out in the Transparency Directive regarding:
- annual financial reports referring to a year-end occurring on or after 31 December 2019 but before 1 April 2020 for a period of two months following the Transparency Directive deadline (ie national competent authorities have been asked not to prioritise supervisory actions against issuers with a financial year-end of 31 March 2020 for failure to publish their annual financial reports for such financial year if such report is published by 30 September 2020 (rather than the 31 July 2020 deadline contemplated by the Transparency Directive)); and
- half-yearly financial reports referring to a reporting period ending on or after 31 December 2019 but before 1 April 2020 for a period of one month following the Transparency Directive deadline (ie national competent authorities have been asked not to prioritise supervisory actions against issuers with a half-yearly-end of 31 March 2020 for failure to publish its half-yearly financial reports for such half-year if such report is published by 31 July 2020 (rather than the 30 June 2020 deadline contemplated by in the Transparency Directive)).
ESMA stated that issuers that reasonably anticipate that publication of their financial reports will be delayed beyond the deadline set out in national laws transposing the Transparency Directive are expected to inform their national competent authorities of this and inform the market of the delay, the reasons for such delay and to the extent possible the estimated publication date.
- a statement on the implications of the Covid-19 pandemic on half-yearly financial reports published on 20 May 2020. ESMA recommended that issuers provide detailed and entity specific information in their interim management reports regarding:
- the impact that the Covid-19 pandemic had on their strategic orientation and targets, operations, financial performance, financial position and cash-flows;
- measures taken to address and mitigate the impacts of the Covid-19 pandemic on their operations and performance and their progress / state of completion; and
- where available, the expected future impact on issuers’ financial performance, financial position and cash-flows, related risks and contingency measures planned to mitigate the expected future impact and risk and uncertainties identified.
ABS issuers that publish annual financial reports and half-yearly financial reports in accordance with the Transparency Directive will need to discuss in those reports the impact that Payment Breaks and other Covid-19 related factors have on the development and performance of their business and provide a description of the principal risks and uncertainties that Covid-19 poses for its business. Directors of ABS issuers should be mindful that management reports and interim management reports should contain a statement from persons responsible within the ABS issuer (typically, the directors of the ABS issuer) that the reports include a fair review of the points discussed above. However, the ESMA statements discussed above provide some extra time for ABS issuers to finalise and publish their annual financial reports and half-yearly financial reports.
This article is provided for general information purposes only and does not purport to cover every aspect of the themes and subject matter discussed, nor is it intended to provide, and does not constitute or comprise, legal or any other advice on any particular matter.