“Bigger than the euro” is how some have described the event that is the end of LIBOR. And that is because LIBOR, since its invention by the Greek banker Minos Zombanakis in the late 1960s, has become so entrenched in the financial system that even at the end of Q1 2021, approximately $450 trillion of financial contracts (bonds, loans, investments and derivatives) worldwide were using it as their reference rate. And even this does not capture the full extent of its use, as it is also prevalent in commercial contracts, organisational enterprise resource planning and treasury management systems, valuation models and pension planning to name a few.
While the Financial Conduct Authority has been saying for some time that LIBOR’s existence beyond the end of 2021 could not be guaranteed, the announcement on 5 March 2021 that the ICE Benchmark Administration (IBA) will no longer have the necessary panel bank submissions to continue to publish any LIBOR tenors after 31 December 2021 (apart from a number of USD LIBOR tenors, which would cease after 30 June 2023), helped to give certainty to the market that LIBOR was definitely going to cease – and when.
I have had the great privilege of having a ringside seat at this event as a member of the UK’s Working Group on Sterling Risk-Free Reference Rates. The advice of the working group is that transition to the chosen alternative risk-free rate should be achieved by the end of September 2021 (in respect of GBP), to allow room for any residual work to be completed in Q4 and to reduce the risk of an adverse impact from an expected decline in LIBOR liquidity, as well as knowledgeable resources (who will most likely be in short supply, as their services will be in demand across the whole market).
So, the aim of this series of articles is to build on the substantial work done to date and offer practical guidance to readers – backed up by interviews with those who have been there and are doing it – on how to transition away from LIBOR in four months – roughly the time available between now and the September deadline.
The interviews are sourced from large, complex organisations from different sectors (banking, tobacco and ports) and demonstrate that transitioning from LIBOR can be a multidimensional puzzle to solve. It is hoped that readers can draw something useful from each interview to incorporate into their own plans.
Perhaps the recently announced criteria by which Federal Reserve supervised institutions will have their LIBOR transition plans assessed (SR 21-7), offer a framework that all organisations can build their transition efforts around. These criteria are:
The detail of such a plan should be proportionate to its scope, but that in itself provides a starting point – the business needs to create an inventory of where LIBOR exists. This gives a clue as to the size of the problem – and thus the budget (yes, budget) required. See the interview with Edel Hough, head of corporate finance at British American Tobacco, for thoughts on how to tackle the planning challenges.
Once the LIBOR exposures are known, the firm should try to quantify them and report them to senior management. Consider reporting these exposures frequently, perhaps on a monthly update to the board, identifying exposures by source (financial contracts – borrowings, investments, derivatives, both external and internal – systems, valuation models, pensions, commercial contracts), counterparty and division and identifying those exposures that will run off before the relevant LIBOR tenor ceases and those that will not. This will help to identify priorities and where to focus the effort of your resources.
Identify any internal and vendor-provided systems and models that use LIBOR as an input and make necessary adjustments to enable their smooth operation by the end of Q3 2021 – our targeted transition date (or longer in the case of the USD LIBOR rates that will exist until the end of H1 2023). (See the article on Associated British Ports’ approach for more on this.)
This step requires reference to the main plan, to identify which legal contracts LIBOR is residing in – it could be a financial or commercial contract – and the development of a mini-plan to understand which contracts need to be modified and the steps required to modify them by the required deadline. In addition, if any new contracts are entered into that reference LIBOR, they should contain robust fallback language that includes a clearly defined alternative reference rate.
A key part of all plans is communication. Proportionate to its LIBOR exposure, an organisation should communicate to its relevant stakeholders about LIBOR transition – the why, the how and the progress against the plan to date. If regulated, the organisation should ensure (and demonstrate) compliance with the relevant regulation. If not regulated, the organisation may well find that it is regulated anyway – in the form of its auditors. There has been some talk that auditors may well be issuing a risk statement in 2021, commenting on the level of adverse risk an organisation is facing from LIBOR transition – which may well be linked to the quality of the plan it has in place.
Linking back to the plan itself and the creation of a governance structure proportionate to the size of the LIBOR exposure, organisations should provide regular updates to senior management, the project sponsors and possibly the board. Involving the board – even if it is only in the AOB section of the agenda – means the issue will gain visibility at the highest level among stakeholders with a 360-degree view of the organisation, which can help overcome political blockages. The board should also hold senior management accountable for the effective implementation of the transition plan, which in itself is a tool for ensuring that the transition away from the relevant LIBORs occurs on time.
With best wishes for a successful transition.
James Leather provides interim and advisory services in the name of Corium Treasury Limited. He is currently interim deputy treasurer for Landsec, giving him the opportunity to put his money where his mouth is and to transition them away from LIBOR… in four months.
With thanks to:
Liz Loxton at The Treasurer and Sarah Boyce at the Association of Corporate Treasurers
Further ACT resources on the LIBOR transition can be found here: treasurers.org/hub/technical/libor.