Andrew Harrington looks at how to avoid interest rate swap issues when dealing with your bank.
The Firmdale case featured in Boutique Hotel News in July 2015 is interesting. It highlights how interest rate swap derivatives, a sometimes inflexible product can complicate or restrict lending arrangements and potentially disrupt the company’s future business development.
As in the case of Firmdale and many others, when a company needs to refinance its existing debt profile the company will have to unwind its hedging exposure and pay a break cost. This can result in substantial financial losses. Other areas may also prove problematic such as the calculation of the loan-to-value covenant, which when breached can potentially trigger a series of events that may push a company into an irrecoverable financial position.
Many of these transactions can be challenged: the problems experienced by Firmdale are not unusual and follow, at least within the UK a pattern of mis-sold interest rate swap derivatives. The UK has set up a compensation scheme that is not without its problems. For example in the UK the FCA announced the Interest Rate Hedging Product Review in 2012, the review has been widely criticised by the UK government and has still not formally closed. It remains to be seen whether other European and Asian countries will adopt a similar scheme. Importantly the problem is not UK specific but is widespread and it is not isolated to a single asset class within derivatives.
Many hotel operators will be familiar with foreign currency loans, foreign currency swaps and foreign currency futures which can also have a detrimental impact. Many of these transactions are supposed to eliminate risk and achieve some degree of financial certainty within volatile markets. However the products themselves are inherently risky and more often than not leave companies exposed to, rather than mitigate, exchange rate risk. The products are sold irrespective of the state of a company’s financial health, cash flow requirements or due regard being given to the company’s size and operations.
The problem is compounded by the fact that many banks have pleaded guilty to foreign exchange market manipulation, with large fines being imposed by UK and US regulators. Several currency pairs have been implicated. This may prove useful for many companies who feel let down by their financial institutions and want to challenge their existing contracts.
AHV Financial Markets has acted for many companies involved in financial markets disputes and have given evidence to the UK government regarding the interest rate hedging scheme. AHV are frequently asked to provide expert advice or act as an expert witness for a number of high profile cases currently engaged in litigation, in some cases it is possible to negotiate a settlement with the bank. Even when litigation is the preferred option, sometimes the associated costs can be prohibitive in such instances litigation funding may be appropriate.