ISDA publishes amendments to permit e-mail delivery of Section 5 and 6 notices

On 30 May 2023, ISDA published standard form bilateral provisions to facilitate the amendment of ISDA Master Agreements¹ to:

• permit the use of e-mail as a delivery method for default and termination notices;
• incorporate a new concept of "Notice Delivery Cut-off Time" to allow parties to specify a cut-off time for effective notice delivery; and 
• align the treatment under the applicable ISDA Master Agreement of an English law Credit Support Annex (CSA) with that of a New York law CSA in certain circumstances.

Market participants can either use the new provisions to bilaterally² implement all the changes described above or to implement some only. The first two amendments are likely to be of particular interest to market participants, particularly in light of practical difficulties encountered with the delivery of notices during the last financial crisis and the recent Covid pandemic.

A comparison of the changes that would be made to a 2002 ISDA Master Agreement by incorporating the new provisions is attached in the Annex to this briefing.

The trouble with notices

Market participants involved in the close-out of derivatives or other market instruments will know that the giving of termination and related notices in a manner which is certain as to time and effect can be problematic, sometimes disproportionately so.  English case law has provided both assistance (in the form of flexibility around timing) and challenges (in insisting on strict conformity with documentary notice provisions) in this context. Historically, hand delivery has been preferred on both a contractual and practical basis, but can be difficult in the case of disruption to travel and communications, outdated documents or a non-cooperative counterparty. The new provisions, where incorporated, will mean that e-mail becomes a more robust and hence more attractive means of delivery from the perspective of a notice-giver. However, counterparties will need to ensure that specified e-mail address details are monitored on an on-going basis.

The incorporation of a specified cut-off, whilst possibly a double-edged sword on occasion, will at least bring certainty.

Our recommendation will generally be to incorporate the new provisions where practicable and where institutional policy permits.

E-mail as a delivery method

Section 12 of the ISDA Master Agreement prescribes the ways in which notices may be given, and the date on which the notice will take effect in each case. 

Unamended, it prohibits the giving of notices under Sections 5 and 6 (which relate to default, termination and close-out) by e-mail (and by "electronic messaging system"), usually leaving parties with the options of delivery by hand, telex, fax or certified or registered mail.  Each of these methods carries risks and practical difficulties, many of which were highlighted during macro market events such as the Lehman Brothers insolvency, the Covid pandemic (discussed here) and the start of the Russia/Ukraine conflict - where local "by hand" deliveries in particular became extremely difficult.

Section 1 of the new provisions replaces Section 12 in its entirety, removing the wording that excludes e-mail as a delivery method for Section 5 and 6 notices and inserting new wording providing that e-mails are deemed effective on the date on which the e-mail is relayed to the recipient's e-mail infrastructure. 

The table below summarises the position as regards notice delivery following amendment of the 2002 ISDA Master Agreement in line with the new provisions.

"Close of business" is not defined and is a notoriously vague concept³. Section 2 of the new provisions therefore allows parties to remove any ambiguity by incorporating a new concept of "Notice Delivery Cut-off", which applies to all methods of delivery (not just the new e-mail method). Parties can use this to specify a particular delivery cut-off time (the "Notice Delivery Cut-off Time") in a particular receiving location specified for each party (the "Notice Delivery Location"), rather than relying on the term "close of business". The new provisions also include a default Notice Delivery Cut-off Time of 17:00 if no other time is specified.

Treatment of English law CSAs following Illegality or Force Majeure

Under their terms, New York law CSAs are treated as Credit Support Documents for the purposes of the ISDA Master Agreement. In contrast, English law CSAs constitute Transactions. Section 3 of the new provisions aligns the treatment under the ISDA Master Agreement of English law CSAs with that of New York law CSAs in certain circumstances following an Illegality or Force Majeure Event, as described further below.

Market participants sometimes amend their English law CSAs or ISDA Master Agreements so that an English law CSA is treated as a Credit Support Document instead of a Transaction.  If this is the case, many of the issues addressed in Section 3 of the new provisions may not be relevant. In our view, refraining from specifying the English law CSA as a Credit Support Document and instead using ISDA's new provisions would be a cleaner approach, as this would prevent certain provisions, such as those relating to Illegality and/or Force Majeure, applying to the CSA as both a Transaction and a Credit Support Document.

When determining any Waiting Period

After an Illegality or Force Majeure Event, a waiting period of three or eight Local Business Days applies if the event occurs in relation to a Transaction. As English law CSAs are treated under the ISDA Master Agreement as Transactions, this would include any relevant English law CSA. During this time, neither party may designate an Early Termination Date in respect of Affected Transactions. However, a Waiting Period does not always apply if the event occurs in relation to a Credit Support Document - which would include a New York law CSA.

Under an ISDA Master Agreement that has been amended in line with Section 3 of the new provisions, an English law CSA will be treated for "Waiting Period" purposes as a New York law CSA, and thus as a Credit Support Document rather than a Transaction.

When determining if and when a party has a right to designate an Early Termination Date 

The Section 3 amendments also affect if and when a party has a right to designate an Early Termination Date following the occurrence of an Illegality or Force Majeure Event. ISDA's rationale for this change is that, after the occurrence of an Illegality or Force Majeure Event relating to performance under a Credit Support Document (i.e. a New York law CSA but not an English law CSA), the party in respect of which the event has occurred can only designate an Early Termination Date if the other party has designated an Early Termination Date in respect of some but not all Affected Transactions. Under an ISDA Master Agreement that has been amended in line with Section 3 of the new provisions, this will also be the case where the event has occurred in relation to performance under an English law CSA.

In addition, it is worth noting that, if an Illegality or Force Majeure Event occurs in relation to performance under an English law CSA but not in relation to other Transactions - including the Transactions that are collateralised by that CSA - then the English law CSA will be the sole Affected Transaction.  Although there may be some scope to argue that the collateralised Transactions are indirectly "affected", there remains some uncertainty as to whether the CSA may be terminated while the collateralised Transactions remain outstanding.  

By contrast, if an Illegality or Force Majeure Event occurs in relation to performance under a New York law CSA, all Transactions collateralised by that CSA are considered to be Affected Transactions, because the New York law CSA is treated as a Credit Support Document. This prevents those Transactions remaining outstanding after the CSA has been terminated. 

By treating the English law CSA as a New York law CSA for the purposes of determining if and when a party has the right to designate an Early Termination Date, the new provisions prevent an English law CSA being terminated due to an Illegality or Force Majeure Event while leaving previously-collateralised Transactions outstanding.  We do note, however, that the risk remains in the case of a Tax Event or Tax Event Upon Merger, and we recommend that market participants consider whether this gap should be addressed both for English law CSAs and New York CSAs.

When obtaining quotations from third parties or affiliates to determine the Close-out Amount

When determining the Close-out Amount in respect of an Illegality or a Force Majeure Event (referred to in the 2002 ISDA Master Agreement as "Mid-Market Events"), quotations obtained from third parties or affiliates for purposes of determining the Close-out Amount under the 2002 ISDA Master Agreement should not take into account the Determining Party's creditworthiness or any Credit Support Document. This means that any such quotation should not take into account any New York law CSA. 

The unamended 2002 ISDA Master Agreement is silent as to whether an English law CSA should be taken into account in this context. However, under an ISDA Master Agreement that has been amended in line with Section 3 of the new provisions, quotations obtained from third parties or affiliates for the purposes of determining the Close-out Amount in respect of an Illegality or Force Majeure Event should not take into account under an English law CSA.

While Section 3 of the new provisions aligns the treatment of the English law CSA and the New York CSA, there is a separate question (not addressed by the new provisions) as to whether the reference in the 2002 ISDA Master Agreement to quotations not taking into account "any existing Credit Support Document" (that is, a Credit Support Document between the two parties to the ISDA Master Agreement) is correct, or whether it should instead refer to credit support documents between the Determining Party and the third party providing the quote.  The latter interpretation would more accurately reflect how a third party takes into account the Determining Party's creditworthiness and would be consistent with the way in which the definition of Close-out Amount addresses that creditworthiness.

Amending legacy ISDA Master Agreements

Currently there are no plans for a protocol to be launched to allow market participants to incorporate the new provisions into legacy ISDA Master Agreements, so they would need to be incorporated via bilateral amendments agreed with their counterparties.  This may prove to be a time-consuming process, but market participants will welcome the ability to amend these provisions in a structured and standardised way.

Practical considerations

• Under the new text, notices delivered by e-mail are deemed effective when relayed to the recipient's e-mail infrastructure (which can be evidenced using delivery data from the sender's e-mail system). It will therefore be important for sending parties to understand what this means and how to generate relay receipts or similar delivery data from their e-mail system, in case there is a later dispute as to effectiveness or timeliness of delivery. 
• Notices given by e-mail must be sent to the e-mail addresses provided in the Schedule (as updated by any subsequent notices of change of details). In order to ensure that notices received by e-mail come to the attention of those that need to see them, it is advisable for the Schedule to list a distribution e-mail address, whose membership can then be kept up-to-date, rather than to list personal e-mail addresses which may become out-of-date and which risk an individual missing a key e-mail.
• Parties should consider which Notice Delivery Locations to specify for inbound notices as, when combined with a static Notice Delivery Cut-off Time, it may create asymmetry in the window in which potentially competing notices can be delivered on a given calendar day.  

Ashurst is amongst the top legal firms for derivatives and contentious derivatives matters, with broad experience of these markets. We would be delighted to answer any questions you might have on this topic or other derivatives topics.

Authors: Philip Linton, Kirsty McAllister-Jones and Ramesh Pani

_{1. The amendments are drafted with the 2002 form in mind but can also be used to amend the 1992 form. In this briefing, we use the term "ISDA Master Agreement" to refer to both forms, unless otherwise stated.}

_{2. No protocol is currently envisaged to amend legacy agreements.}

_{3. The meaning of "close of business" was considered in Lehman Brothers International (Europe) v Exxonmobil Financial Services BV and was held to be highly fact-specific.}