The COVID-19 outbreak and its impact on debt restructuring

The COVID-19 situation has had a grave effect on the overall business environment, both globally and locally. A lot of things are on ice, resulting in limited access to funding both from capital markets and bank lending sources. To mitigate public health related consequences, the Ukrainian Government and local authorities have introduced certain quarantine measures, which have limited or completely stopped business operations, particularly those of small and medium businesses in certain industries. That has ultimately squeezed liquidity positions in the business community, putting timely debt servicing in question.

Business support measures

To support businesses which suffered from the quarantine measures introduced:

the Ukrainian Parliament passed the Law of Ukraine On Amendments to the Tax Code of Ukraine and Other Laws of Ukraine Regarding Taxpayers Support During the Period of Measures Aimed at Preventing the Onset and Spread of Coronavirus Disease (COVID-19) No. 533-IX dated 17 March 2020 and the Law of Ukraine On Amendments to the Laws of Ukraine Aimed at Additional Social and Economic Guarantees Due to the Spread of Coronavirus Disease (COVID-2019) No. 540 dated 30 March 2020, which, among other things, prohibited Ukrainian banks from increasing interest rates and applying sanctions for failure to perform obligations in a timely manner under consumer loans. This ban on increasing the interest rate was further extended to all loans provided by Ukrainian banks;
the Ukrainian Government and the NBU should elaborate and adopt a national program of specific purpose loans to sustain a salary fund by 2 May 2020;
the Ukrainian Government should elaborate a program by 2 May 2020 for stimulating the economy to overcome the negative consequences of COVID-19 in Ukraine; and
the NBU recommended that Ukrainian banks initiate the restructuring of loans extended to Ukrainian borrowers (domestic loans) and provided guidelines for such restructuring procedure which may be initiated by both the bank and clients. In addition, the NBU amended the rules for determination of the credit risk resulting from active banking transactions. In particular, such amendments permitted the non-application of certain default features to those loans which existed as of 1 March 2020 and which will be restructured by the end of September 2020.

Businesses react

Initial reactions from both lenders and borrowers was to assess immediate implications of the lockdown/quarantine measures on existing contractual arrangements. It is quite obvious that the implications of COVID-19 will trigger more debt restructuring within the next few months, the numbers and volumes of which will depend on the depth of the global and Ukrainian economic crises resulting from COVID-19. Global measures related to COVID-19 led to the immediate shutdown of international capital markets. Although there is a sign of potential debt issuances on some foreign markets (e.g., some high yield issuances in the U.S.), generally, it is not yet time for primary market issuances. The prospects for primary debt offerings out of Ukraine in the near future are not high. Similarly to debt restructuring work, Ukrainian issuers may soon consider performing liability management exercises in relation to their existing public debt.

The recommendation made by the NBU in relation to restructuring of domestic loans may not be enough to encourage banks to volunteer the initiation of such restructuring. Thus, borrowers who experience liquidity difficulties, should not wait until default happens but approach their banks sooner rather than later with a request to consider various restructuring options.

Unlike borrowers under domestic loans, borrowers under cross-border loans have no benefit from the above-mentioned support measures. Cross-border loans governed by foreign law contain, as a rule, complex financial and information covenant packages. Borrowers under such loans need to carefully verify that they continue to comply with them. If the risk exists of breach of such covenants or such breach has already taken place (i.e., non-payment default), such borrowers should ask for respective waivers from creditors as a short-term solution, having the understanding on whether they would be able to remedy such breach or there would be a need to amend loan documentation so as to avoid continuation of a default situation. If there is a risk of payment default, it is also advisable to initiate restructuring negotiations with lenders at a time when there is still a pre-default (rather than post-default) situation. Creditors are usually open to considering available restructuring options when borrowers are able to demonstrate that they are acting in good faith and will ensure equal treatment towards creditors.

Sufficient time has not passed yet to make a full assessment of all the implications and consequences of the crisis driven by COVID-19, which is likely to hit the Ukrainian economy harder as Ukraine has fewer resources to support businesses which are suffering, and is more vulnerable to global financial turbulences (putting aside Ukraine’s domestic political and economic issues, which may add more oil to the fire). There is no doubt that, to a large extent, the current situation is unprecedented. As a result, it would be in the interests of both sides, creditors and borrowers, to try and find the most optimal and proportionate solutions (e.g., waivers, simple amendments and extensions or more complex restructuring instruments) that will enable the challenges that businesses will face within the next 6-12 months due to COVID-19 to be addressed.

By Glib Bondar, senior partner at AVELLUM

Posted in Covid-19 Guidance