Last year, we reported on the case of Titan Europe 2007-1 (NHP) v U.S. Bank and others1, which considered, among other things, the issue of rating confirmations where a successor special servicer was being appointed and what would happen where a rating agency declined to give a confirmation. One year on, special servicer replacement provisions have been considered again in the case of Deutsche Trustee Company Limited v Cheyne Capital (Management) UK (LLP) and another2.
The case concerned the Deco 15 – Pan Europe 6 Limited CMBS established in June 2007, where Deutsche had been appointed to act as Trustee and where Cheyne had been subsequently appointed to act as Operating Advisor to the most junior class of Noteholders. The Notes were rated by S&P, Fitch and Moody's.
Under the Servicing Agreement, the Operating Advisor had the right to terminate the appointment of the Issuer Special Servicer, subject to certain conditions being met. In May 2014, Cheyne requested the Issuer and Trustee to terminate the appointment of the incumbent Issuer Special Servicer and appoint a replacement.
The Servicing Agreement provided that no termination of the appointment of the Issuer Special Servicer would take effect unless the rating agencies had confirmed to the Trustee that the appointment of the successor would not result in a ratings downgrade, unless each class of Noteholders had approved the appointment by extraordinary resolution. Where Moody's failed to respond to the request for a confirmation within 30 days, no confirmation from Moody's would be required.
The court noted prevalent market practice in relation to the issue of rating confirmations, namely that from 2007, Moody's had generally stopped issuing written confirmations in relation to special servicer appointments and that, in 2012, Fitch had announced that it would no longer provide confirmations at all. In relation to Cheyne's request, S&P had provided the required confirmation, Moody's had said that it would provide one contemporaneously with the Issuer Special Servicer being replaced and Fitch confirmed its approach that it would not provide any confirmation.
The issue that the court considered was whether the Servicing Agreement permitted the replacement of the Issuer Special Servicer in circumstances where, as here, a rating agency had declined to issue a confirmation.
Cheyne contended that the clause should be interpreted as requiring confirmations only from rating agencies that were willing in principle to give them (and so the absence of a confirmation from Fitch was immaterial). The Trustee contended that the clause required confirmation from all three rating agencies and that, absent an extraordinary resolution, the lack of a confirmation from Fitch was decisive and there could be no replacement of the Issuer Special Servicer.
The court found in favour of the Trustee. Adopting the same iterative approach to construction that had been followed in Titan, the court held that, among other things:
- The Servicing Agreement was clear in requiring all three rating agencies to give confirmations and that, in any event, the Noteholders had an overriding ability to approve a replacement Issuer Special Servicer without the rating confirmations, whether because one rating agency other than Moody's had declined to give a confirmation or for another reason.
- Whilst requiring consent by extraordinary resolution from each class of Noteholder was a high threshold to reach, it was important to note that for an approval in this context, the transaction documents enabled the decision of a senior class of Noteholders to bind more junior classes. The court did not consider that it was improbable that Noteholders would agree to replace an Issuer Special Servicer, even if an extraordinary resolution was needed from all classes of Noteholders.
- The draftsman had contemplated a scenario where Moody's did not respond to a request to provide a confirmation and, in such circumstances, when a Moody's confirmation would not be required. Cheyne argued that the drafting was designed to address a known possibility at the time, that Moody's may not provide confirmations, and that the drafting therefore indicated how the parties contemplated such a problem should be addressed in the context of S&P and Fitch. The court disagreed saying that the known problem at the time was that Moody's did not generally issue written confirmations, rather than failing to respond at all. The Trustee pointed out that Moody's rated only two of the ten tranches of Notes issued so the carve-out could have been included because it was felt that it was less important to obtain confirmations from Moody's. In any event, the court held that the drafting was clear in that, absent an extraordinary resolution, a confirmation from S&P and Fitch was required for a successor appointment to take place.
- The court did not support Cheyne's argument that requiring a confirmation from a rating agency that had adopted a policy of not giving one would produce a commercially absurd result as the Servicing Agreement provided the get-out of the overriding Noteholder extraordinary resolution option.
- The court distinguished the case from Titan as there were material differences between the documents for the transactions. The Servicing Agreement for the Titan transaction specifically stated that where a rating agency declined to issue a confirmation, the relevant provision should be construed as though such confirmation was not required. However, no such provision was included in the Servicing Agreement for Deco. The Titan documentation also did not include the overriding Noteholder extraordinary resolution option or differentiate between different rating agencies. As such, the Titan judgment was not relevant in the context of the present case.
The case once again illustrates the problems surrounding special servicer replacement provisions that require rating agency confirmations. In 2012, Fitch issued a press release stating that they would no longer issue confirmations in respect to special servicer appointments due to their conflict concerns around proposals originating from individual creditor classes whose interests may not be aligned with those of other affected noteholders. The requirement to provide confirmations in respect to special servicer appointments for securitisations remains an issue for rating agencies.
There were material differences between the special servicer replacement provisions in this case and in Titan but they both presented problems for transaction counterparties and rating agencies alike. There may be other securitisations which have yet to be fully unwound that contain equally problematic variations of the special servicer replacement provision. In order to avoid future disputes, next-generation documentation should more clearly articulate what is to happen if rating agencies decline to issue confirmations required by securitisations. --------------------------------------------------------------------------------
1 Titan Europe 2007-1 v U.S. Bank and others  EWHC 1189 (Ch)
2 Deutsche Trustee Company Limited v Cheyne Capital (Management) UK (LLP) and another  EWHC 2282 (Ch)