Return to Sender? English Law Implications of the Citi/Revlon Judgment  

Background

Citibank, N.A. (Citi) acts as administrative agent in connection with a syndicated New York-law term credit agreement provided to Revlon, Inc. (Revlon) in 2016. Revlon has had a tempestuous relationship with the lenders under this credit agreement (the Lenders) as a result of the now infamous Revlon "trap-door". The trap-door is shorthand for a weakness in Revlon's covenants, which enabled Revlon to transfer USD 250m of intellectual property out of the 2016 facility obligor group, reducing the secured assets available to the Lenders, increasing Revlon group's leverage as a whole as a result of new PIK note lending secured on the transferred assets, and giving the new PIK lenders significant commercial leverage over the 2016 facility obligor group as the latter is now dependent on licences of the transferred intellectual property.

Against this backdrop, in August 2020 Citi was in the process of arranging for approximately USD 7.8m of accrued interest to be paid by Revlon to the Lenders. As some Lenders were exiting the 2016 facility, Citi's internal accounting system required that an amount equal to the entire principal of the 2016 facility be transferred to an internal Citi "wash account". Unfortunately an error in the transfer process resulted in that amount (USD 893,944,008.42) being transferred to the Lenders instead of the wash account. Though Citi issued recall notices to the Lenders the next day upon realising the mistake, ten investment advisory firms that, collectively, had erroneously received more than USD 500 million from Citi refused to return the money. Citi commenced legal action against these Lenders to recover the funds.

Law

Citi's claim was brought under New York law. As the United States has a common law tradition, there is significant crossover between it and English law in terms of legal concepts. Citi's claim was mainly based on "unjust enrichment", which is a concept also found in English law. Citi's claim that the Lenders were unjustly enriched failed because the 'discharge-for-value defense' under New York law applied. This defence allows a recipient to keep funds that are paid by mistake if: the funds discharge a valid debt owed to the recipient; the recipient makes no misrepresentations to induce the payment; and the recipient does not have notice of the mistake when it receives payment.

Citi is expected to appeal this decision, which makes it difficult to ascertain the long-term impact as a matter of New York law. But it is interesting that the scale and precision of the overpayment counted against Citi in the decision, with the court noting that there was less reason for the Lenders to think a mistake had been made because witnesses from both sides had confirmed that the level of overpayment was unprecedented, and because the payments Citi made to the Lenders matched the exact amount of the principal debt owed to them.

While the concept of unjust enrichment is familiar to an English lawyer, the outcome under English law might have been different. The defence of payment of a due debt exists where a payment has been made by mistake but, where the debt is owed by a third party, that third party must have authorised the payment. However, a further potential defence under English law of change of position might still apply if the payment recipient has reallocated the funds to other investments and cannot easily retrieve them (the Lenders had not dissipated the funds). Therefore agents cannot be certain that an unjust enrichment claim will always succeed in a claim determined under English law.

Documentary Protections for Agents

Standard English law agency provisions contained in Loan Market Association (LMA) facility agreements offer extensive protections to facility agents, reflecting that their functions are purely mechanical and administrative in nature. Facility agents are afforded broad indemnities from both lenders and borrowers, and documentation will generally state that the facility agent is not liable to any person for losses (including in respect of any error of judgment made by its officers or employees) unless caused by the facility agent's gross negligence or wilful misconduct.

The LMA forms of facility agreement also provide 'clawback' protection for a facility agent, intended to ensure that where a facility agent makes payments to lenders in the expectation of a payment from a borrower, the lenders shall refund the relevant amount if the corresponding borrower payment is not forthcoming. The degree to which this provision may assist facility agents in a Revlon scenario is not entirely clear. Revlon had not indicated that it was making a repayment, so on first glance, the facility agent's actions appear to fall outside the intended scope of the clawback provisions. However, as LMA clawback provisions are drafted broadly, it may be possible to consider the wording as applicable in any case where the facility agent pays an amount to another party when it has not actually received that amount. It is hoped, on behalf of all market participants, that there will never be a chance to test this language in the English courts in a case directly analogous to Revlon. However, noting that LMA agent indemnities do not apply in the event of an agent's gross negligence (and arguably the error amounted to gross negligence) and that exclusions of LMA agent liability are equally inapplicable in a case of gross negligence, any agent in Citi's shoes relying on LMA provisions may face an uphill struggle.

On 3 March 2021, the US equivalent of the LMA, the LSTA, released a discussion draft of language that an administrative agent may opt to include in a credit agreement to provide additional protections against a Revlon scenario. The LSTA's proposed language allows agents to serve notice of an erroneous payment, subject to an optional long-stop date. If a notice is sent, lenders are obliged to return the funds with interest. The draft provision also waives any claims or defences a lender might have in connection with such payments. Given that the draft provision effectively forces lenders to hold payments in a suspense account until they are sure that a notice will not be served, it is uncertain at this point whether this approach will gain market acceptance in the United States or in any other markets.

Next steps

It is recommended that administrative agents and lenders alike carefully assess the agency provisions in their credit agreements to appropriately manage their potential liability risks in relation to erroneous payments. While the market may accept further agent protections, agents should also stress test their internal systems to ensure that they will operate as expected.