Prepayment fees in loan transactions

Prepayment fees in loan transactions

It is common practice for loan agreements to provide for a fee/ premium where a loan is repaid earlier than its contractual due date. The said fee is designed to compensate the lender/s for the loss of anticipated income from the transaction and is usually expressed as a percentage of the principal amount prepaid. While the loan agreement sets out the circumstances in which the prepayment fee will be payable, usually it is in cases of voluntary prepayment by the borrower and does not include situations where the prepayment is compulsory/ mandatory, e.g. acceleration of the loan due to occurrence of an event of default etc.
While this should normally be easily decipherable from the loan agreement itself, a recent decision of the English High Court (QBD/ Commercial Court) in the matter of Aston Hill Financial Inc v African Minerals Finance Ltd, [2012] EWHC 2173 (Comm.) demonstrates that a potential area of difficulty may arise where the loan agreement is not clear on this matter.
Brief Facts
A facility agreement was executed on February 4, 2011 for a loan of upto US$ 500,000,000 for the development of Phase I of Tonkolili iron ore project in Sierra Leone. On February 11, 2011, the lenders disbursed US$ 417,700,000 to the borrower, African Minerals. On January 31, 2012, it was announced that Standard Bank Group had agreed to refinance the original loan. A syndicated facility led by Standard Bank was signed on February 3, 2012.
The borrower noted that pursuant to Clause 8.3 of the loan agreement, it was obliged to prepay the loans with any finance proceeds promptly after receipt of such funds and asked for detail as to (among other things) the amount required to prepay the Facility in full on a daily basis from February 7, 2012 to February 9, 2012 inclusive. The facility agent replied by a letter of the same date, stating that the outstanding loan amount of $417,000,000 and details of the accrued interest but making clear that 'any other amounts that may be due under the Finance Documents are not included in this notice'.
On the same day, the lenders' solicitors responded to the borrower, notifying it that if the prepayment was made before February 10, 2012 (the first anniversary of the Closing Date), the borrower was required to pay the prepayment fee referenced in Clause 8.8(d). The letter went on to state that Clauses 8.3 and 8.5 of the Facility were not mutually exclusive and that, as the borrower was aware, prepayment fees were included to compensate the lenders for early repayment of the loan. The letter (i) noted that in this case, the lenders negotiated and agreed the prepayment fee with the defendant in order to ensure that they would be properly compensated for their costs of funds and risks incurred by virtue of entering into the Facility; (ii) stated that the defendant was seeking to obtain more favourable terms by refinancing the loans; and (iii) stated that the failure of the defendant to pay the prepayment fee in the event the Facility was prepaid on or before the first anniversary of the Closing Date would constitute a breach of a contract.
On February 8, 2012 the borrower prepaid the full amount outstanding under the Facility of US$417,700,000. Such prepayment included a prepayment of US$291,100,000 to the claimants in respect of the full principal amounts outstanding in respect of their loans to the defendant under the Facility.
Relevant provisions
It is pertinent at this time to cast a quick glance at the relevant provisions of the Aston Hill loan agreement:
(a) Clause 8.3(a) (Disposal Proceeds and Finance Proceeds) stated that "The Borrower shall prepay, and the Parent shall ensure that the Borrower prepays, the Loans in an amount equal to the amount of Disposal Proceeds or Finance Proceeds promptly upon receipt of any Disposal Proceeds or Finance Proceeds by any member of the Group."
(b) Clause 8.5 (Voluntary Prepayment of the Loan) stated that "The Borrower, if it gives the Facility Agent not less than five Business Days' (or such shorter period as the Majority Lenders may agree) prior notice, may prepay the whole or any part of the Loan (but, if in part, being an amount that reduces the Loan by a minimum amount of $100,000,000)."
(c) Clause 8.8(c) stated that "On prepayment of all or any part of the Loans pursuant to Clauses 8.5 (Voluntary prepayment of the Loan), the Borrower shall pay to the Facility Agent (for the account of each Lender) a prepayment fee on the date of such prepayment, in the following amount: (i) 6 per cent. of the amount prepaid or repaid if the prepayment is made on or before the first anniversary of the Closing Date; and (ii) thereafter, no prepayment fee will be payable."
Court's decision
The court found that the principles of construction are well established and were not in dispute. Both the lenders/ claimants and the borrower/ defendant sought to rely upon the passage in Rainy Sky SA v. Kookmin Bank [2011] 1 WLR 2900; [2011] UKSC 50 at [21] to [30]. Thus, it was common ground that it is necessary when construing a commercial contract to strive to attribute to it a meaning which accords with business common sense and to have an eye on the commercial consequences of a particular construction; and that: "If there are two possible constructions, the court is entitled to prefer the construction which is consistent with business common sense and to reject the other".
The court however found it difficult to come to a decision as the wording was unclear and ambiguous. The two prepayment clauses are difficult to reconcile. While the decision to refinance the original loan was a voluntary decision on the part of the borrower, especially since the Standard Bank facility was more competitively priced. The prepayment could not have happened in the absence of refinancing arrangements contracted to by the borrower. It is therefore attractive to categorize the prepayment as voluntary, with the result that the lender would be entitled to the prepayment fee. On the other hand, Clause 8.3 envisages that if the borrower issues new equity or incurs new debt, prepayment becomes mandatory to the extent of the proceeds received by the borrower.
The court ultimately accepted the latter interpretation and held that the prepayment made was mandatory under Clause 8.3 and hence, no prepayment fee was due. The case highlights the need for clarity around prepayment provisions in loan agreements. From a lender's perspective, this decision is an unattractive precedent as it is more than probable that a borrower interested in prepaying an existing loan would seek to do so from a capital infusion or a new loan (both, in this case, being grounds for mandatory prepayment and hence, not liable to a prepayment fee).