The Court of Appeal confirmed1 that a borrower under a Tier 2 facility agreement was excused from making payments because of the risk of U.S. secondary sanctions.
The court made it explicitly clear that whether or not non-performance may be excused will depend on the specific words of the affected contract and the wider context. However, whilst fact sensitive, the decision also makes clear that the English court is likely to consider U.S. secondary sanctions as "mandatory" provisions of law.
The claimant, Lamesa Investments Limited ("Lamesa") sued Cynergy Bank Limited ("Cynergy") over non-payment of interest under a Tier 2 facility agreement for GBP 30 million. The payment was outside the jurisdiction of the U.S. and therefore was not directly prohibited by U.S. sanctions legislation.
Lamesa is ultimately owned by Mr Viktor Vekselberg, who was put on the OFAC list of Specially Designated Nationals approximately 3 months after the facility agreement was executed. Lamesa thereby became a blocked entity, so that persons dealing with it became subject to U.S. secondary sanctions legislation. Secondary sanctions threaten the imposition of U.S. sanctions on parties engaged in significant transactions with persons subject to U.S. primary sanctions, including certain entities owned by them (as was the case with Lamesa) even if such transactions take place entirely outside the jurisdiction of the U.S..
Lamesa brought a claim against Cynergy for non-payment of interest under the facility. Cynergy argued that it cannot legally pay Lamesa because it is a blocked entity, and relied on the terms of the facility which said that it will not be in default if non-payment is "in order to comply with a mandatory provision of law, regulation or order of any court of competent jurisdiction".
Lamesa's argument was that U.S. secondary sanctions are not a "mandatory" provision of any law. It argued that there was a difference between a statute which requires or prohibits an act, and one that only creates a risk of a penalty or sanction.
Cynergy on the other hand argued that, even though there was no absolute prohibition, the risk was such that if sanctions were to be imposed, it would be unable to conduct its day-to-day business. In addition, Cynergy argued that the focus of compliance with a mandatory provision of law was on the conduct of the individual, not the reaction of the authorities, regardless of whether the pre-conditions to the imposition of sanctions were satisfied.
The High Court Decision
At first instance, the High Court dismissed the claim stating that U.S. secondary sanctions legislation expressly prohibited payment on pain of imposition of a sanction and Cynergy was entitled to act in a manner so as to avoid the possible imposition of the sanction.2 It said that a provision is mandatory if the parties "cannot vary or dis-apply" such a provision.
The High Court also said that it was unlikely that the parties intended the words "in order to comply with" to mean only express statutory prohibitions because at the time of the facility agreement, including because of the "ruinous impact" that secondary sanctions would have on Cynergy.
The Court of Appeal's Decision
Lamesa appealed arguing that the relevant U.S. legislation did not purport to bind Cynergy to act or not to act in a particular way. It went further and said that any wording in the contract must be clear to enable the debtor to escape its payment obligations. It said that the uncertainty whether secondary sanctions are mandatory or not is not clear enough, and the High Court failed to take into account Lamesa's interest and only considered the impact of secondary sanctions on Cynergy, not the impact of non-payment on Lamesa.
The Court of Appeal disagreed. Significantly, the court found that under the particular U.S. secondary sanctions statute in question, the imposition of sanctions is mandatory, albeit subject to conditions, being (i) whether the payment is significant and (ii) whether imposing sanctions is in the interest of the U.S.. Those conditions were not relevant in this case, but the court said that there may be cases in which it would also have to consider and determine whether these conditions are satisfied. It bears noting that regardless of any mandatory wording in secondary sanctions legislation, as a matter of U.S. law the provisions are not self-executing, and secondary sanctions are not imposed absent an affirmative act of the Executive Branch.
The Court of Appeal made it clear that the main basis of its decision rested on the particular context and the language of the facility agreement.
The court determined that:
- The fact that it was a Tier 2 Capital loan was significant. It noted that "non-payment provisions of a loan of Tier 2 Capital are neither generally, nor in this case, of the kind seen in ordinary loan agreements"; and
- At the time of execution the parties would have been aware of the risk of secondary sanctions on the basis of the EU Blocking Regulation which contains "strikingly similar" language as was used in the facility agreement.
The court said
"One of the risks facing international banks is that they will be faced with the problem of dealing with the prospect of US secondary sanctions. Tier 2 lending is an EU concept, and the parties were EU financial institutions. If a "mandatory provision of law" only referred to one that directly bound the borrower not to pay, it would have almost no possibility of taking effect".
Further, it said that one of the "most significant pieces of context" is that the borrower's liability is not extinguished but postponed, even if for a prolonged period. It thereby addressed Lamesa's concern that clear words are required to abrogate a payment obligation and that its interest has been considered, given that it is still entitled to be paid, albeit later.
Notably, one of the three judges expressed reservations about the decision and whether non-payment indeed can be excused where the imposition of sanctions is not certain. Lord Justice Males said that the words "in order to comply with" had to mean that Cynergy's reason for non-payment was in in order to comply with the secondary sanctions legislation, and not in order to avoid the risk of being sanctioned. He appeared to have sympathy with Lamesa's argument that, objectively considered, what mattered was whether the relevant law prohibited payment by Cynergy, and not whether, in practice, Cynergy could get away with non-compliance with such a prohibition.
This case represents rare guidance from a national court in relation to the impact of the risk of U.S. secondary sanctions on contractual performance. The decision is highly fact-specific and the Court of Appeal expressly stated that the specific context was key to its determination. Nevertheless, the court held that secondary sanctions are mandatory, despite the absence of a direct enforcement mechanism and the imposition of sanctions being subject to conditions and affirmative implementation. It is notable that the judges envisaged cases where the English court would have to also consider and determine whether the conditions for the imposition of sanctions would be satisfied.
The reservations expressed by one of the judges demonstrate the complexity of determining the extent to which the risk of sanctions may excuse non-performance of a party's obligations. It is likely that this decision will not be the last time courts will have to grapple with these questions.
1. Lamesa Investments Limited v Cynergy Bank Limited  EWCA Civ 821.
2. See our previous blog post - "High Court of England: U.S. Secondary Sanctions can Trigger Illegality Clauses", CGSH Trade and Sanctions Watch, available at https://www.clearytradewatch.com/2019/10/high-court-of-england-u-s-secondary-sanctions-can-trigger-illegality-clauses/#more-2307
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