Loan Agreement Market Disruption Clauses

Doing Business in Oman

We understand that the market disruption clause has recently been invoked by more than one Omani bank in relation to loans to at least one Omani company following the turmoil in the banking sector at the end of last year. Previously this clause had seldom been relied upon by lenders and therefore had not been highly negotiated by borrowers. Lenders have been reluctant to rely on this clause for reputational and competitive reasons - they are nervous about revealing they have to pay more in the interbank market than the LIBOR (London Interbank Offer Rate) and their actual funding costs. The market disruption clause in the Loan Market Association (“LMA”) style loan agreement can be triggered if the cost of obtaining matching funds in the market to fund a loan for lenders with the required percentage of participation (typically varies between 25% and 50%) is in excess of LIBOR. If this clause is triggered, then the interest rate on each lender’s share of the loan for that interest period will be calculated using the actual cost to that lender of funding its share of the loan from whatever source it may reasonably select. This clause will need to be re-triggered for each interest period. When this clause is triggered, the borrower may request that the agent enter into negotiations for up to 30 days with a view to agreeing a substitute basis for determining the interest rate. In reality, this may not assist the borrower, as any substitute basis for determining the interest rate will require all lenders’ consent. Issues of concern for the borrower where this clause has been triggered include:

• An increase in the borrower’s funding costs - the actual cost of funds will be payable to all of the lenders;
• The potential breach of certain financial covenants – such as the interest cover ratio – in the loan agreement; and
• If there is any interest rate hedging, this hedging is no longer likely to match the interest rate payable - there are typically no market disruption provisions relating to LIBOR in such hedging arrangements.

Actions that a borrower could subsequently take include:

• Requesting that the additional interest costs should be ignored in calculating the financial covenants;
• Prepaying the lenders with the highest funding rates - this is likely to require all lenders’ consent and may encourage lenders to quote higher funding rates;
• Selecting shorter interest periods – there tends to be greater liquidity available in the market for shorter interest periods and it would also shorten the period during which this clause would apply; and
• Agreeing a higher interest rate payable under the loan agreement - this is only likely to require consent of a majority of the lenders but all lenders’ consent would be required to effectively bind the lenders from subsequently triggering this clause.

The wording of the market disruption clause in a loan agreement will need to be reviewed carefully as it is likely to differ from the LMA style loan agreement.

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Focus On: Maritime Piracy and the Law

A series of spectacular attacks by Somali pirates over the last year has attracted enormous attention to the timeless, and now resurgent, problem of maritime piracy. For a time, the problem seemed limited to the waters off the Horn of Africa, but last month, pirates struck close to Oman in dramatic fashion. Armed with heavy weapons and night-vision capabilities, Somali pirates hijacked the German cargo ship MV Charelle 60 nautical miles off the coast of Sur. This attack was the first instance of Somali pirates seizing a ship outside of their normal area of operations.

The international attention is more than a passing fancy. Maritime piracy has had very real costs for shippers, as well as exporting countries and industries. The world has watched as pirates have hijacked vessels of increasing size and value, including a super-tanker carrying 2 million barrels of oil worth US$100 million. The total economic cost of maritime piracy has been estimated at over US$10 billion.

For a nation like Oman whose fortunes rest in part on a healthy shipping and export sector, security of shipping vessels and cargo is imperative. Perhaps the most significant determinant of security is how the law is used by both governments and private actors to combat and prevent maritime piracy.

International law creates a framework through which coordinated, collective action by states against maritime piracy is possible. Domestic civil law, on the other hand, provides a range of mechanisms through which businesses may protect their interests by taking preventative action.

The International Legal Response
The recent spike in attacks has sparked an unprecedented level of multinational anti-piracy activity; namely, the creation of an anti-piracy armada including ships from more than twenty countries. These joint patrols find legal authorization under the U.N. Convention on the Law of the Sea (the “U.N. Convention”). The United Nations Convention deals with the rights and responsibilities of nations in their use of the world’s oceans. Oman is a signatory to the U.N. Convention and ratified it in Royal Decree 67 of 1989. Recently, the U.N. Security Council has also issued a series of resolutions expanding the legal basis for the use of force on Somali pirates.

The result of this coordination has been, in the words of U.N. Secretary General Ban Ki Moon, “one of the largest anti-piracy flotillas in modern history.”

This cooperation has included many Gulf nations, including Oman. On June 29, Omani naval commanders participated in a conference in Riyadh with representatives from eleven other Arab states in the Gulf and the Red Sea aimed at coordinating a regional response. Out of this meeting came decisions to establish a joint naval task force and strengthen naval forces in the region.

In addition to providing a framework for joint action, international law has helped direct the criminal prosecution of suspected pirates. In the 18th century, it was determined that maritime piracy constituted a universal crime that could be prosecuted in any jurisdiction, regardless of geographic connection to the criminal act, the defendant or the victim. This concept became known as “universal jurisdiction.”

While universal jurisdiction allows any nation to prosecute a maritime pirate, in practice, most nations are loathe to spend time or resources prosecuting and incarcerating pirates from far away lands for crimes widely considered to be beyond the deterrent effect of limited judicial prosecution.

As a result, interested nations have increasingly entered into bilateral agreements on the prosecution of suspected pirates. In recent months, Kenya has signed memorandums of understanding with the U.S., the European Union and Britain to prosecute suspected pirates in Kenya.

The Domestic Legal Response
In Oman, there have been concerns about more pirates crossing into the territorial waters of Oman. Territorial waters, as defined in the U.N. Convention, consist of the coastal waters extending no more than twelve nautical miles from Oman’s coasts. These territorial waters are regarded as the sovereign territory of Oman.

While international law plays a crucial role in organizing the governmental response to piracy, businesses and individuals in Oman may consider a preventative approach by looking to domestic laws to protect their interests.

Specifically, exporting industries and businesses involved in shipping will secure their goods and vessels through contracts with insurers and private security contractors. In that regard, private maritime security companies are considering the establishment of business operations in Oman.

War insurance may be desirable, as may ransom and kidnapping coverage. The Oman Maritime Law (Royal Decree 35 of 1981, as amended) states that certain war risks, which may include piracy, are not included in a policy unless it has been agreed otherwise between the insurer and the insured. Therefore, it would be important for those seeking war insurance coverage for piracy in Oman to clearly agree what events are covered.

Some may seek new physical deterrents to employ onboard their vessels, while others may prefer to hire armed escort vessels to repel would-be pirates.

In instances where shipments have been hijacked, private individuals will need to ensure that the payment of ransom does not run afoul of the law in any jurisdiction in which they operate. While it is not typically illegal to make a ransom payment, it is illegal in many jurisdictions to make payments to parties determined to be involved in acts of terrorism. Given the murky relationships between Somali pirates and terrorist organizations active in Somalia, it must be determined whether any relevant domestic anti-terrorism laws would be implicated in the payment of ransom.

The legal issues created by maritime piracy underscore the need for internationally experienced legal counsel. In under a decade, the 21st century has shown with alarming frequency that domestic concerns, such as instability in Somalia, can give rise to global problems as significant as maritime piracy.

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Doing business in Oman FAQ: Bankruptcy

The financial crisis has resulted in many companies encountering difficulties in maintaining profits and even staying solvent. In Oman, courts may declare a company facing financial difficulties as bankrupt or insolvent if (i) its financial state is in disorder; and (ii) it has ceased to discharge its commercial debts. The bankruptcy declaration may be ordered by the court based on the court’s own initiative, upon application by the debtor company, or by one of the company’s creditors. Omani courts often appoint an administrator for managing the debtor’s assets while the bankruptcy application is pending.

Once a company has been declared bankrupt by an Omani court, the company may be liquidated. The court will usually appoint a liquidator for effecting the transfer of the company’s remaining assets. The liquidation is usually effected by way of judicial sale or public auction.

In distributing the assets of a bankrupt company, all expenses of the administrator or liquidator, including compensation, must be paid from assets of the bankrupt company before any distribution is made to creditors. Thereafter, creditors are ranked pursuant to the Law on Recovery of Government Debts [RD 32/94] in the following order of priority:

1. Government;
2. Employees;
3. Secured Creditors;
4. Unsecured Creditors; and
5. Subordinated Creditors.

As a general rule, debt of secured and unsecured private debts is subordinate to debt owed to the government even if the government debt arose later and is not secured. The Government is generally known to give up its priority ranking in favor of employees.

Unlike the bankruptcy law of some countries, the Omani laws for bankruptcy and liquidation are very straightforward. The focus of the law is to protect creditors as much as possible and ensure the insolvent company is liquidated efficiently.

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Hot Topic: Nuclear Energy in the GCC

Earlier this month, Oman’s Ministry of Foreign Affairs signed a Memorandum of Understanding (MoU) with the Russian Federal Atomic Energy Agency (Rosatom) that deals with cooperation in the peaceful use of nuclear power. The MoU could lead to Russia and Oman engaging in joint research projects and even building nuclear reactors together.

The MoU details Russia and Oman’s plan to establish a working group to promote Oman’s plans to develop nuclear power. The countries also plan to draft an intergovernmental agreement for cooperation in peaceful nuclear energy. Both countries have stated that they plan to cooperate in the following areas:

• • development of nuclear power infrastructure;
• • fundamental and applied research;
• • use of radio isotopes;
• • building and operation of commercial and research nuclear reactors;
• • nuclear safety and control;
• • execution of joint projects on prospecting and mining of uranium;
• • treatment of radioactive waste;
• • provision of nuclear fuel cycle services; and
• • training and professional development of administrative and scientific-technical personnel.

Oman has long had plans to diversify its economy and encourage sustainable economic development policies, and the peaceful use of nuclear power fits in with those plans. Cooperation between Oman and Russia on nuclear power can help the Sultanate develop infrastructure, provide employment opportunities and training, and benefit from Russian expertise and technology.

Oman is not the first country in the Middle East to seek nuclear energy development. Bahrain, Jordan, Kuwait, Oman, Qatar, Saudi Arabia, the United Arab Emirates (UAE) and Yemen have all expressed their intention to develop nuclear energy. The UAE has already signed a bilateral agreement with the United States on nuclear cooperation and is also talking with France to cooperate on nuclear energy. In addition, the North African countries of Algeria, Egypt, Libya, Morocco and Tunisia have also expressed interest in nuclear energy.

MENA states have a number of motivations for this interest in nuclear energy, such as powering water desalination plants and air conditioning, diversifying beyond oil, and furthering scientific and economic development. Some countries have even stated that they prefer to sell their oil rather than use it to meet domestic demand, and constructing nuclear reactors would enable them to do that.

Energy demand is growing rapidly in Oman and the GCC, with electricity and desalination demands estimated to increase by about 10 per cent annually by 2015. Recently, a GCC-wide electricity grid was introduced which allows GCC states to share power during peak periods. The GCC electricity grid is designed to address what has been labeled a “power crisis” in the region.

GCC states are looking to nuclear and other alternative energy sources as providing potential solutions to the power crisis. Solar energy is another potential resource, with new projects underway. Earlier this month, Abu Dhabi opened the largest solar power grid in the Middle East and North Africa. Oman is also in the process of developing solar energy projects in response to the growing electricity demand.

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Focus on: Litigation in Oman

Summer time is when the Oman Courts almost go into hibernation; very few hearings take place between July 1 and September 30.

However, in many ways it is the most crucial time in Omani litigation, because the Court-appointed experts are often writing their reports to the Courts over these three months.

It is probably true to say that, about 90% of the time, the Omani Courts rubber-stamp and approve the report conclusions reached by the experts who have been appointed by those Courts.

The Courts in Oman choose to appoint experts in most cases, and they frequently turn to local private-sector accountants when monetary compensation is claimed.

In these cases, it is not the Oman Courts that must be persuaded - rather, one must convince the experts appointed by the Courts. Experts meet with the parties separately to hear arguments and receive documents. These meetings are central to determining who wins and loses in Oman Court cases.

Lawyers play an important part in assisting and guiding their clients in meetings with experts. Good preparation is a prerequisite, as is an ability to answer all the enquiries made by the experts in these face-to-face scenarios.

The general rule in Omani law is that an aggrieved party will be compensated for its direct losses, as opposed to indirect losses.

However, there is no clear-cut Omani judicial definition of “direct“ and “indirect“, and it should be borne in mind that most of the experts do not have qualifications in law in any event. Accordingly, it is the lawyers who need to convince the experts whether a specific head of claim should be perceived as direct or indirect.

It should also be remembered that Omani law includes a duty to mitigate one’s losses and, equally, Egyptian case law is highly persuasive to experts and the Courts in Oman.

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New Law Alert: Taxation

A new income tax law for Oman was issued on 25 May 2009. The new law will apply to a company’s accounting periods which begin on or after 1 January, 2010.

The main highlights of the new income tax law are:

• • The replacement of a territorial basis for taxation with a global system – this means that Omani tax authorities will tax overseas income but relief will be granted for taxes paid overseas. Such relief will be available even if Oman does not have a double tax avoidance treaty with the relevant country where tax has been paid.

• • There will be a uniform tax rate of 12% for all branches (including branches of foreign companies) with an initial tax-free exemption of RO 30,000. Previously, foreign branches (other than GCC companies) were taxed at a rate of up to 30%. Oman will now have the lowest tax rate in the region when compared with other countries which impose taxes.

• • A 90-day threshold in any period of twelve months has been introduced for triggering the requirement for a permanent establishment of a foreign company in Oman – this will create certainty for foreign companies who visit on a limited basis as to whether a permanent establishment is required.

• • A statute of limitations of ten years has been introduced; previously, the tax authorities could pursue a company without any limitation of time.

• • There will now be penalties for late filing of tax returns as well as for incorrect tax filings.

The new tax law includes modifications that are generally favorable to companies doing business in Oman. Companies likely will be particularly interested in the tax reduction for branches of foreign companies, as this was previously a significant drawback for companies in deciding whether to form a branch in the Sultanate.

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