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11 Apr 2018

Court of Appeal delivers judgment on the correct construction of the default valuation provisions in the GMRA (2000 version)


LBI EHF v Raiffeisen Bank International AG [2018] EWCA Civ 719


The English Court of Appeal has ruled on the correct construction of the default valuation provisions in the Global Master Repurchase Agreement (2000 version) ("GMRA") and, in particular, the meaning of "fair market value" in the definition of "Net Value".

LBI's claim

The claim was brought by LBI EHF. (formerly Landsbanki Islands hf) ("LBI") arising out of the close-out in October 2008 of repo and securities lending transactions entered into by Raiffeisen Zentralbank Österreich AG (now Raiffeisen Bank International AG ("RBI")) and LBI.

On 7 October 2008, following the collapse of the Icelandic banking system the Financial Supervisory Authority of Iceland appointed a Resolution Committee to manage the affairs of LBI. That was an event which RBI was entitled to, and did, declare an Event of Default under the GMRA1. At that point RBI had eleven open positions in securities (bonds and a Sukuk) sold to it by LBI against LBI's agreement to repurchase them on a variety of dates.

The GMRA gives the non-Defaulting Party the option of serving a Default Valuation Notice within 5 business days of the date on which the Event of Default occurred (the Default Valuation Time) and to deploy one of three alternative valuation methods.

In this case however no Default Valuation Notice (as defined by the GMRA) was served by RBI by the Default Valuation Time (of 15 October 2008). In those circumstances the GMRA provided, by paragraph 10(e)(ii) that:

"…the Default Market Value of the relevant Equivalent Securities … shall be an amount equal to their Net Value at the Default Valuation Time; provided that, if at the Default Valuation Time the non-Defaulting Party reasonably determines that, owing to circumstances affecting the market in the Equivalent Securities … in question, it is not possible for the non-Defaulting Party to determine a Net Value of such Equivalent Securities … which is commercially reasonable, the Default Market Value of such Equivalent Securities … shall be an amount equal to their Net Value as determined by the non-Defaulting Party as soon as reasonably practicable after the Default Valuation Time."

Paragraph 10(d)(iv) of the GMRA defines "Net Value" as:

"…the amount which, in the reasonable opinion of the non-Defaulting Party, represents their fair market value, having regard to such pricing sources and methods (which may include, without limitation, available prices for Securities with similar maturities, terms and credit characteristics as the relevant Equivalent Securities or Equivalent Margin Securities) as the non-Defaulting Party considers appropriate" (emphasis added).

In the event, as soon as the Notice of Default under the GMRA had been dispatched to LBI, RBI asked for bids from 10 institutional counterparties. It also enlisted its own traders to help sell the positions. Although prices were available on Bloomberg, at the time and in the distressed market circumstances prevailing, RBI did not consider these prices to represent a practical and commercial realisable value.

Some of the securities were sold prior to 15 October 2008 and the rest sold after that date. Ultimately, at trial, RBI relied on figures which it argued represented a rational and honest determination of fair market value at 15 October 2008, which were based on the information available to it at that date.

LBI argued however that in carrying out a determination of fair market value RBI should, in effect, not take into account the distressed state of the market as at that date.

Knowles J considered that the task for the court (citing the leading cases of Socimer Bank Ltd v Standard Bank Ltd [2008] EWCA Civ 116 and Lehman Brothers International (Europe) v Exxonmobil Financial Services BV [2016] EWHC 2699 (Comm)) was to put itself in the shoes of the decision maker (i.e. RBI, the non-Defaulting Party) and ask what decision RBI would have reached, acting rationally and not arbitrarily or perversely.

Knowles J considered RBI's submissions as to fair market value based on the information actually available to it on 15 October 2008 regarding the valuation of the securities. The judge was prepared to accept that RBI's figures (including the adjustments it applied for the positions closed out after 15 October 2008) met the requirement for a rational, honest determination of fair market value as at 15 October 2008.

It was common ground that on those figures LBI's claim was therefore bound to fail, so the claim was dismissed.

LBI subsequently appealed against this decision on the basis that Knowles J should have accepted its construction of "fair market value" as requiring the non-Defaulting Party to arrive at a value which was separate from and not reflective of a distressed or illiquid market. LBI contended that Knowles J:

  1. failed to give sufficient weight to the contractual context in which the words "fair market value" appear;
  2. failed to have regard to, or to take sufficient account of, the Guidance Notes that accompany the GMRA as a permissible aid to the construction of "fair market value"; and
  3. reached a commercially unsound conclusion contrary to the guidance promulgated by the publishers of the GMRA.

Given that there is no other authority on the meaning of "fair market value" in the definition of "Net Value" in the GMRA; LBI was granted permission to appeal by the Court of Appeal2.

The Court of Appeal's decision

In a judgment given by Lord Justice Flaux (with which the other Lord Justices agreed), the Court of Appeal dismissed LBI's appeal.

The Court of Appeal found that in the absence of some express or implied limitation in the GMRA on the exercise of discretion, as a matter of principle, the only limitation will be that the non-Defaulting Party must have acted rationally and not arbitrarily or perversely.

LBI submitted that the assessment of "fair market value" must be by reference to a price agreed between an unimpaired/willing buyer and an unimpaired/willing seller, neither being under any particular compulsion to trade, so that any illiquidity or distress in the market is to be left out of account. This, LBI said, would require forming a reasonable view of the intrinsic value of the bonds by a process of valuing them in accordance with a valuation model. However, the Court of Appeal found that such a contention was not one which is to be found in the express terms of the GMRA. Nor was there any basis for its implication, because it is contrary to the express language of the GMRA and the wide discretion conferred on the non-Defaulting Party. Indeed, the definition of "Net Value" expressly entitles the non-Defaulting Party to have regard to whatever "pricing sources and methods" and to "available prices for Securities" as it considers appropriate, without any limitation in the wording of the provision as to the factual circumstances in which the non-Defaulting Party can have regard to those matters.

LBI had also been critical of Knowles J's failure to set out an interpretation or definition of "fair market value". However, the Court of Appeal noted that the difficulty with providing any fixed definition is that it risks restricting what under the contract wording is a wide discretion given to the non-Defaulting Party to assess the "fair market value". It also accepted RBI's submission that the GMRA is used in respect of a wide variety of financial instruments (not just bonds) so that a tailor-made definition of "fair market value" to fit the facts of this case would not have been appropriate.


The Court of Appeal has therefore confirmed that there is no warrant for limiting the width of the discretion provided by the GMRA by requiring the non-Defaulting Party to disregard the evidence of the market merely because it was illiquid or distressed at the particular time.

Accordingly, the non-Defaulting Party, particularly in a distressed market, is afforded a wide amount of contractual discretion in reaching a determination on "fair market value" subject only to it acting rationally and not arbitrarily or perversely.

Stephenson Harwood LLP (Richard Gwynne, Stephen Davis and Jeremy Livingston) represented RBI in these proceedings.

1 There was a challenge as to the service of the Notice of Default but this was rejected by the trial judge and was not appealed.
2 LBI advanced three grounds of appeal but was only granted permission in respect of this ground.



Richard Gwynne

Richard Gwynne

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Jeremy Livingston

Jeremy Livingston
Senior associate

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Stephen Davis

Stephen Davis

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