1. What are MAC/MAE event of default provisions?
A MAC (Material Adverse Change) or MAE (Material Adverse Effect) event of default provision (MAC and MAE are usually interchangeable terms) in loan agreements (“MAC Provision”) enables lenders to invoke certain contractual rights aimed primarily at: (i) suspending the credit lines that are still available; and (ii) decreeing ̶by withdrawing from the agreement ̶ the termination of its legal effects with consequent "acceleration" of the payment obligations of the borrower.
MAC Provisions may be triggered upon the occurrence of events/circumstances which, inter alia, affect (in a material way) the legal, economic, financial, equity or business ("business MAC") condition of the borrower (or some of them) and/or (or as a result of the aforementioned events/circumstances) its ability to service the debt ("payment MAC"). Moreover, if the loan is secured, MAC Provisions may also extend to the validity, legality and enforceability of the security granted to the lenders.
MAC Provisions are aimed at protecting lenders in case certain unforeseen events occur, which, even if they are not caused by the borrower and do not relate to its particular sphere, due to their significance, are likely to have a material negative impact on the borrower's economic and financial situation and assets and on the borrower's ability to meet its financial obligations to the lender.
MAC Provisions typically have broad and generic wordings (for example, “the effect of any event the consequences of which, directly or indirectly, may have a material adverse effect on the borrower's legal, economic, financial or asset situation or its business”). For this reason it is crucial to understand what are the minimum indispensable conditions for lenders to rely ̶ especially in a situation of instability such as the current one due to COVID-19 ̶ on the MAC Provisions contained in loan agreements.
2. How do MAC/MAE event of default provisions actually work?
In general terms, a lender may trigger a MAC Provision if it is able to prove (i) that the relevant event/circumstance was unforeseeable at the time when the agreement was entered into by the relevant parties, and (ii) that the effects of the agreement are in themselves likely to negatively affect the borrower's financial situation, causing, for example, a significant drop in revenues. Lastly, this event/circumstance (iii) cannot usually be temporary in nature.
Following the occurrence of a material adverse event/circumstance, the lender must evaluate (using reasonableness and good faith standards) whether such an event/circumstance substantially affects the borrowers’ ability to repay the loan.
MAC Provisions are generally specific to the business/financial condition of the borrower and do not refer (subject to exceptions) to global economic conditions or events that affect the loan market in general (in respect of the latter case, please see paragraph 4 below regarding MAC Provisions contained in the mandate and commitment letters).
3. Can lenders rely on MAC/MAE event of default provisions following the outbreak of the COVID-19 virus?
Lawyers will have to evaluate in each case whether the MAC Provisions contained in loan agreements are an appropriate remedy for lenders following the COVID-19 virus outbreak and the emergency measures decreed by world governments. Can we define the effects of such an event as "materially adverse" to, inter alia, the ability of the individual borrower to meet its payment obligations to the lender?
Certainly, this question cannot be answered unambiguously, and above all, a mere "yes" or "no" is not enough. Furthermore, the answer will depend on many factors, including the literal wording of the single MAC Provision.
At present, we can state that the scope of application of MAC Provisions and the possibility for lenders to leverage them will depend very much on the overall duration of the phenomenon being examined and the restrictive measures laid down by individual governments, so the longer the emergency situation lasts, the deeper will be the effects on the real economy and the borrowers' economic-financial situation.
A further essential element for the assessment is the sector in which the individual company operates. For example, in relation to the COVID-19 emergency, we already know that some sectors will be more affected than others (e.g. aviation, tourism, automotive) and, therefore, it is certainly more likely that the COVID-19 effects (a prerequisite for the application of the MAC Provisions) will appear earlier in these sectors than in others.
MAC Provisions all have in common that the effects of the events referred to (directly or indirectly) in these provisions must have lasting consequences and that the lender must be able to prove, in the most appropriate courts, that the event at issue has already had (and will continue to have) tangible effects on the economic results of the company being financed.
In addition, in Italy, MAC Provisions have not found any particular legal confirmation, and in our experience, in the past (even in crisis situations comparable ̶ but not equivalent, given its uniqueness ̶ to the current one), lenders have always been very reluctant to invoke their application.
In conclusion, we believe that a precise and well-founded analysis of the assumptions for the application of the MAC Provisions with respect to the spread of the COVID-19 virus is extremely complex ̶ at least in this initial phase ̶ since the COVID-19 effects on the real economy are still uncertain and much will depend on the duration of the phenomenon.
4. MAC/MAE provisions in commitment documents
Mandate and commitment letters are agreements signed by lenders aimed at guaranteeing the future borrower the financial support necessary to complete a transaction (generally a corporate acquisition) pending negotiations with the counterparty or in the phase between signing and closing the transaction.
These types of letters, which are quite common in leveraged buy-out transactions, often contain termination conditions linked to the occurrence of a MAC/MAE. These conditions precedent allow the underwriters of the commitment to revoke (and, therefore, withdraw from) the commitment to underwrite and disburse the loan or to renegotiate certain economic terms of the loan (e.g. request an increase in the margin as a result of the increase in the associated risk). Some of these provisions (which, as mentioned above, take the form of termination conditions) also include a "market" MAC/MAE, i.e. include among the events the consequences of which, direct or indirect, may negatively affect the future borrower's ability to fulfil its contractual obligations also events concerning "the performance of the Italian or international financial markets". In recent years, these provisions were increasingly rarely introduced in the mandate and commitment letters (borrowers were leveraging financial market stability, particularly low interest rates linked to the expansionary policies of central banks and the particularly short duration of the commitments and the very liquid and vendor-driven market). In the light of recent events, we expect that these provisions will once again become widespread, if only after long negotiations, in future mandate and commitment letters.