It might sound like, that banks have enough time for LIBOR transition, however, considering the challenges attached to transition, it is almost certain that without absolute smart technology, well-thought-out strategy, LIBOR transition for the already signed contracts can be a nightmare and might result in banks getting into lawsuits amounting to billions of dollars. Welcome to the LIBOR transition challenge.
The UK’s Financial Conduct Authority (FCA) announced the discontinuation of LIBOR starting Jan 2022 and many central banks announced reference rates for their countries like SOFR for the USA, ESTER for Europe, SONIA for the UK, SARON for Swiss and SARON for Japan. While announcing these new reference rates was the first step but ensuring the complete transition is a massive project for every business.
Consider $ 400 trillion contracts running into hundreds of millions of live contracts across banks, Insurers, Re-Insurers, businesses, and retail customers globally covering various products & services like financial instruments, derivatives, cross-currency loans, mortgages, securitization instruments, retail loans, business loans, Floating Rate Notes (FRN), etc. LIBOR transition is going to be a mammoth task making existing contracts enforceable in the post-LIBOR era.
Practically speaking during the life of any LIBOR related contracts there is invariably a fallback clause. Which covers that in absence of LIBOR some other market-linked publicly available benchmark is provided. However fallback language or fallback clause was never included in the contracts imagining LIBOR will vanish one fine day after being part of billions of legal contracts for over five decades. The fallback language was always used for certain technicalities where LIBOR is not available for a day or two.
The approach to handle this challenge requires the formation of the Steering Committee and tasks involved to successfully handle this within time say by Sep 2021 require CXO level involvement. The tasks in hands include:
- Accumulation & building database of legal contracts having reference to LIBOR. Considering these contracts are available in all forms & shapes across geographies, business units can make this task the hardest challenge
- The Discovery of LIBOR clauses within these contracts is the other big challenge. LIBOR clause is present across multiple places in many contracts including normal business contracts where for example penalty clauses, indemnity clauses may have reference to LIBOR. A smart comprehensive intelligent solution may provide means of conducting extensive search and cataloging of contracts in a fully automated manner using state-of-art machine learning techniques combined with features of building contract addendum, negotiation features, and digital signature options across geographies. Anyone thinking of doing this manually reading through all contracts is just next to impossible.
- Outreach program: Consider every organization having more than at least tens of thousands of counterparties including banks, businesses, retail customers, borrowers, intermediaries, etc require a massive outreach & communication program about information dissemination, informing contract changes/amendment on account of LIBOR transition and ensuring execution of revised contracts well within time.
- Change in technology applications across organizations involving geographies, languages, regulatory framework is another challenge, which is coming up due to the LIBOR transition. Every business has more than fifty various technology applications to handle business globally and every application might have some connection with LIBOR rate hence technology change for LIBOR transition require engaging with tech application vendors requesting them with change requests etc
To ensure a seamless LIBOR transition, banks must consider partnering with a specialized solution provider with the right mix of domain knowledge in terms of advanced technology, banking domain expertise, and deep commitment. As the deadline for LIBOR phase-out is fast approaching, Treasury Managers, General Counsels, Contract Management professionals are busy putting the strategy and execution plan in place. LIBOR transition, though, will come with a lot of challenging situations given banks’ complex operational structure. It is about time now to put an implementation plan in place to complete the LIBOR transition by Jun 2021.