Well, maybe not Zeus but Richard Snowden QC no less. On Valentine’s Day this year, we published our blog entitled “Clash of the Titan 2007-1”. Now that the red roses have wilted, the champagne drunk and the chocolates eaten, let us take a look at what the first instance decision in Titan Europe 2007-1 (NHP) has to say about replacing special servicers in European securitisation deals.
In providing directions to the trustee, Richard Snowden QC considered two important issues: Who is the Controlling Party entitled to serve notice under the Servicing Agreement to require the termination of the appointment of the Special Servicer? What happens if the Servicing Agreement dictates that RACs are required as a pre-condition to the replacement of the Special Servicer but the condition could not be satisfied due to a rating agency declining to provide RACs as a matter of policy?
The “Controlling Party” is typically the party exposed to the first loss position on the structure i.e. either the B-piece lender or if value breaks in the securitised portion, the most junior class of noteholders, i.e. the “Controlling Class”.
The critical issue with this case was that the offering circular and the transaction documents seemed to contradict each other as to whether the Controlling Party was the Issuer or the representative of the Controlling Class. The court came to the conclusion that the Servicing Agreement (being the contractual document) trumps the Offering Circular (which whilst informative, was not binding). The judge applied the rules of interpretation of contract and broadly concluded that if the meaning of the contract was unambiguous then that must have been the intended effect of the parties which led to some very unintended consequences such as unwittingly putting the Issuer (a special purpose vehicle with no skin in the game) in the driving seat as the “Controlling Party”. Is it commercially right for the judge to instate the Issuer as the Controlling Party when the economic interests in the transaction are held by the Noteholders (and the Controlling Class Representative their supposed spokesperson)? One of the supporting arguments put forward was that the Issuer had assigned its contractual rights to the Note Trustee and therefore as the benefit of the rights given to the Issuer were capable of exercise by the Note Trustee (in the interests of Noteholders), there was nothing commercially absurd about the Issuer being the Controlling Party. What follows quite unhelpfully is that Snowden left it to the parties to figure it all out, declaring:
“But whilst there would appear to be a need for the Issuer and Note Trustee to consider how such matters might work out between them in practice, [he] did not understand [counsel for the Note Trustee contended that it] would be impossible or commercially unworkable.“.
In doing so, he leaves open some issues that could impede this CMBS transaction in a manner that might not have been intended. Instead of bringing the Servicer closer to the ultimate investor and increasing the level of transparency and accountability, we end up rekindling the classic love triangle between the Servicer/Special Servicer, the Issuer and the Trustee borne from the contractual burdens that restrict them. Whether or not this will have an impact on the investors is yet to be seen.
The court also referred to the Fitch announcement whereby Fitch announced that it would not, as a matter of policy, provide RACs during the replacement of special servicers on EMEA CMBS transactions (see our last blog entitled “What the Fitch??!”).
Whilst the Titan Servicing Agreement required RACs confirming that the termination and/or replacement of the Special Servicer would not cause a ratings downgrade, the Servicing Agreement also provided that, admittedly in another circumstance, if a Rating Agency declines to issue such a confirmation then the relevant provision shall be read and construed as though written confirmation from the Rating Agency declining to issue the confirmation was not required.
On this matter, the court gave the example that if a Rating Agency were simply to stop issuing rating confirmations altogether, then the Special Servicer could not even validly terminate its own appointment no matter that both of the other Ratings Agencies might be willing to give such confirmations, which would not make commercial sense. In conclusion, Fitch’s policy not to issue Rating Agency Confirmations should not prevent otherwise valid replacement attempts in situations consistent with the Titan, so long as the other requirements are satisfied. We’ll touch on one of those “other requirements” which is rather controversial in the next blog.
For now, Zeus has spoken and it was indeed an interesting address from Mount Olympus. However, as the Representative of the E Class Notes has been granted leave to appeal, those may not be the parting last words… See Clash of the Titan 2007-1 (Part III) for a view as to what this judgment means to the various parties in a securitisation of this type and some of the practical issues thrown up by the Titan judgment.