And the consensus is in: Act fast!Data gathered from a recent Accenture article written by Bob Bradley & Samantha Regan.’ Read the full story here.
The London Interbank Offered Rate (LIBOR) is one of the most important and highly used interest rates in the world. A market standard since 1986, it underpins an estimated $400 trillion in tens of millions of contracts. But it’s on its way out.
LIBOR is being phased out by the end of 2021 due to a shift to risk-free rates (RFRs). That could lead to some serious disruptions for organizations—unless action is taken now. Companies that use LIBOR rates need to take steps today to speed up the phase-out.
Here’s the challenge: Most organizations aren’t ready for the shift away from LIBOR. Our 2019 study found that less than 20 percent of leaders surveyed have a transition program that they feel can get the job done. Even more telling, many underestimate just how complex and impactful the LIBOR transition will be.
Leaders are also suddenly facing major consequences of the global pandemic. They’re having to rapidly adjust to the changing needs of their people, customers and suppliers—all while navigating ever-evolving operational and financial challenges.
So now more than ever, all impacted organizations should have a clear and actionable LIBOR transition plan in place. The good news is that there’s still time to make those critical strategic moves. An end to end contract management capability delivered by a Compliance as a Service (CaaS) provider can help you avoid pitfalls and mitigate risks throughout the process.
What’s Changing And When?
The United Kingdom regulatory body that oversees LIBOR announced it will stop compelling banks to provide their estimates for the LIBOR rate on December 31, 2021.
The volume of interbank lending based on LIBOR declined in the wake of the financial crisis. Changes in money market funds and bank regulations mean that the underlying market that LIBOR measures is no longer sufficiently active.
This means all contracts affected by LIBOR moving forward will be Business As Usual (BAU), and should incorporate and reflect the change. But there’s more.
Organizations are in the process of identifying the benchmark rate they will use to replace LIBOR and it looks like there will no longer be one global benchmark rate. For example, many companies based in the United States will use the Secured Overnight Financing Rate (SOFR), while many companies in United Kingdom will use the Sterling Overnight Index Average (SONIA) to replace the LIBOR rate.
This means repricing contracts is a highly complex and enormous task, even more so now that there will be more than one rate to consider.
Know The Challenges And Risks
Are organizations prepared for the shift?
Not according to our 2019 study Barriers like regulatory uncertainty and lack of clarity are standing in the way of transitioning.
Undoubtedly, the costs of failing to be ready for the transition in time are high. Companies risk running into major issues with contracts that rely on LIBOR rates, which range from loan, commercial and securities contracts for student and credit card loans and adjustable-rate mortgages, home equity and lines of credit to auto. And that’s just scratching the surface. Any organization with contracts that use LIBOR as a benchmark will be impacted.
Additional risks include challenges with renegotiating a large volume of contracts, particularly when one party may have a contractual right to a sudden and unexpected windfall. Fluctuating prices within a short period can be another barrier, particularly when contracts are left to convert to fallback provisions.
Think In Phases
Leaders should have a strong, multi-phase transition plan plotted out:
Phase 1: Discovery and analysis
- Discovery: Identify all in-scope contracts impacted and check for accuracy and completeness.
- Intake and Readiness: Quality check contracts, refine scope and upload them digitally.
Phase 2: Assess and amend
- Assessment: Review exposure and impact of remediation
- Client, Finance & Risk Review: Review the impact to client risk and finance
- Create Contract Amendment: Complete a legal review of fallback language and other provisions across contracts
Phase 3: Communicate and negotiate
- Client Outreach: Open discussions with clients
- Negotiation: Align on remediation action with all stakeholders
- Closure: Receive confirmation from clients and finalize all new contracts
Phase 4: Sign, book & store
- Signature: Obtain required signature forms from all stakeholders
- Rebook: Book updated contracts to trade, risk, and accounting systems
- Store and Digitize: Store all contracts and relevant data in a secure environment so they are accessible to stakeholders
When you ensure the accuracy of your downstream system data—and that the new effective rate is in place within your reference data systems—you can use it within your organization. The result? You’ll have the longer term benefit of a better understanding and access to data that’s in one convenient digital repository.
Take Action Now
Prepare now, and you’ll adapt faster and move with the market to minimize risks as LIBOR phases out. You’ll also have better-digitized contracts that make it easier to extract relevant data. That data can then be quickly analyzed to make more informed decisions about your inventory in the future. Particularly in these uncertain times, that’s a win-win on every level