UK: Court Confirms ISDA Master Agreement To Apply In Many Different Situations And With As Much Straightforward Application As Possible

Lehman Brothers Finance SA (In Liquidation) v Sal Oppenheim JR & CIE KGAA [2014] EWHC 26277

The claimant (Lehman) claimed for the balance of the sum which it argued was properly due from the defendant arising out of early termination of four option transactions governed by an English law ISDA Master Agreement (1992 version) (the Agreement), together with interest.

The transactions were put and call options by reference to the Nikkei 225 Stock Average Index. There was Automatic Early Termination of the Agreement by virtue of the Event of Default arising out of the entry into Chapter 11 bankruptcy proceedings by Lehman's Credit Support Provider (Lehman Brothers Holdings Inc) on 15 September 2008, such that the claimant was the Defaulting Party and the defendant the Non-Defaulting Party. The Tokyo Stock Exchange and Osaka Stock Exchange were closed for a Japanese holiday on 15 September 2008 and did not reopen until 9am the next day; between close on Friday 12 September 2008 and reopening of the market on 16 September 2008 there was a substantial fall in the Nikkei Index as of 16 September and continuing, with the consequence that the value of the four options rose. In the Schedule to the Agreement the parties chose the Market Quotation payment measure to apply on an Event of Default. As such, the Settlement Amount fell to be paid by the Non-Defaulting Party and to be calculated by the Market Quotation unless, by reference to the Settlement Amount provision, (a) Market Quotation could not be determined or (b) a Market Quotation would not produce a commercially reasonable result – in which case, the Loss method would apply.

By letter dated 30 April 2009, the defendant informed the claimant that it had determined that the amount to be paid by it to the claimant in respect of the transactions arising out of the Early Termination was EUR 1,849,968.99 (though this figure was at this stage unsupported by calculations). After an email dated 18 June 2009, by which it submitted calculations which it asserted supported such figure, the defendant paid the said sum on 14 July 2009, together with interest. The claimant claimed that this figure was wrongly calculated and there had been a substantial underpayment.

The Court held that, on the facts, the figures supplied on 18 June 2009 were based on a spot rate, obtained from three banks, which was the closing level of the Nikkei Index on 12 September 2008 (i.e. before the Automatic Early Termination). As such, they were retrospective valuations, and not quotations for a Replacement Transaction, as was required by the Market Quotation provision. Although the Nikkei Index was closed on 15 September, a price quotation could have been obtained on 16 September 2008, had it been requested from four market-makers. The Market Quotation provision required that a "live" quotation for a replacement transaction be obtained, not a historic valuation. Such quotations should be requested on or as soon as reasonably practicable after the relevant Early Termination Date. As the relevant quotations would have been obtained, had they been sought, and as there was no evidence that Market Quotation would not have produced a commercially reasonable result, the Loss method was not available. If the Market Quotation formula had been correctly applied, the gross figure at the close of the market on 16 September 2008 would have been around EUR 6,549,000. After accounting for credit for collateral etc, this would have led to a payment of EUR 2,963,081.18. Interest on the sum underpaid was also awarded.

The Judge proceeded on the basis that, whatever the rival positions and motives of the parties, he could and must simply construe the terms of the Agreement into which they entered and calculate the consequences. He emphasised that the ISDA Master Agreement is "intended to be normative, and to apply in many different situations and with as much straightforward application as possible". As such, this decision underlines the difficulty that a party would face in justifying any departure from the requirements concerning the obtaining of market quotations or otherwise from the clear terms of an ISDA Master Agreement.

The full text of the judgment can be found here:

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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Nicola Vinovrski
Anna Myrvang
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