Asset-Level Eligibility Series: Confidentiality Restrictions

This Legal Update explores why, in order for an underlying loan to be included in a warehouse facility’s borrowing base, the underlying loan’s documentation cannot contain confidentiality restrictions that could impair the lenders’ rights under the warehouse facility and access to important information about the underlying loan.

Examples of Eligibility Criterion – Confidentiality Restrictions:

• The Underlying Instruments for such Loan do not contain a confidentiality provision that would prohibit the Administrative Agent or any Secured Party from exercising any of their respective rights hereunder or obtaining all necessary information with regard to such Loan, so long as the Administrative Agent or such Secured Party, as applicable, has agreed to maintain the confidentiality of such information in accordance with the provisions of such Underlying Instruments.
• The Underlying Instrument for such Loan does not contain confidentiality provisions that restrict the ability of the Facility Agent to exercise its rights under the Transaction Documents, including, without limitation, its rights to review such debt obligation or Participation Interest, the Underlying Instrument and related documents and credit approval file.

How May Confidentiality Restrictions Arise?

• For loans made by a private credit fund, the principal loan documentation (such as a credit agreement) commonly includes a confidentiality provision that restricts the administrative agent and lenders from disclosing the borrower’s confidential information to third parties. The scope of confidential information may be negotiated, but typically includes information relating to the borrower’s business and financial condition. There are usually carve-outs from the confidential information definition (e.g., for publicly available information) and for permitted disclosures (e.g., if required by law or regulation), which may also be negotiated.
• There is often a carve-out permitting disclosure to a lender’s prospective assignee, subject to compliance with certain specified conditions (e.g., a requirement for the prospective assignee to be party to an agreement containing provisions substantially the same as, or no less restrictive than, those of the credit agreement’s confidentiality provision). However, a warehouse lender likely would not constitute an ‘assignee’ before a foreclosure proceeding; therefore, it is important to ensure that disclosure to ‘financing providers’ or similar roles are permitted under the underlying loans.
• Confidentiality provisions may also prohibit disclosure of confidential information to “Disqualified Institutions” or “Competitors” and a warehouse lender could be included as such in the underlying loans.

Why Do Warehouse Lenders Care if the Borrowing Base Includes Loans that are Subject to Problematic Confidentiality Restrictions?

Warehouse facilities customarily include this eligibility criterion for two main reasons. First, a warehouse facility’s lenders must ensure that they can access the information that they need about the warehouse borrower’s underlying loan portfolio (i.e., their collateral) in order to complete their underwrite and monitor the risk, value and performance of the loan portfolio. Second, if the warehouse facility experiences an event of default, the secured parties may elect to exercise remedies and foreclose on the collateral, at which point the agent could exercise its right to become (or for a buyer at a foreclosure sale to become) an assignee or purchaser of the warehouse borrower’s interests on the underlying loan portfolio. Thus, it is vital that there not be confidentiality restrictions that could impair the agent’s/buyer’s ability to receive the related loan documentation and information in order to foreclose and/or consummate the assignment. A breach of the underlying loan’s confidentiality provisions could also have various consequences, including lender liability and breach of contract claims raised by the underlying borrower, damage to the disclosing lender’s reputation in the market, and disputes over the validity of the assignment. It is critical for a lender to be well positioned to efficiently and effectively access its collateral in a downside scenario and get repaid—these potential consequences of a breach may hinder that protection.

Conclusion

Violations of a loan agreement’s confidentiality provisions may result in significant consequences for both the disclosing party and the recipient—for instance, potential liability/claims, reputational damage, and, if the disclosure pertains to a lender assignment, challenges to the validity of the assignment. In the context of a warehouse facility and disclosure of confidential information with respect to an underlying loan, the recipients are the warehouse facility’s secured parties. The disclosing party could be the warehouse facility’s borrower (as lender on the underlying loan). It could also be the underlying loan’s agent (e.g., if the warehouse facility’s agent pursues an assignment in a foreclosure scenario and the underlying loan’s agent discloses confidential information in connection with the assignment). Regardless of the disclosing party, the secured parties’ ability to access information and act quickly is imperative in a downturn or foreclosure scenario. Accordingly, a warehouse facility should include a borrowing base eligibility criterion requiring that the underlying loan’s documentation not contain any confidentiality restrictions that could impair (1) the warehouse facility lenders’ ability to receive the requisite information about the underlying loan to assist them in their credit evaluations, or (2) their rights and remedies under the warehouse facility.