Vedder Thinking | Articles Sanctions Regimes and Shipping Finance
The United States, the European Union and the United Nations have a long-standing practice of imposing sanctions to achieve diplomatic/political objectives. This is evidenced by the sanctions imposed against Cuba, North Korea, Sudan, Syria, Egypt, Libya, Iran, Russia and Ukraine, among others. However, over the last decade and, in particular during the last five years, the United States as increasingly made international economic sanctions regimes a centerpiece of its foreign policy arsenal, whilst the EU has used them as a tool to promote the objectives of the Common Foreign and Security Policy. Both U.S. and EU sanctions regimes are consistently subject to frequent amendments and expansions such as those against Syria and Iran and introductions of more recent regimes such as those against Russia and Ukraine.
Sanctions are of particular relevance to the shipping industry. Not only does shipping’s close affiliation with the energy sector expose it to a variety of oil, petroleum and gas trade prohibitions, the industry has also been the direct target of specific sanctions imposed by both the United States and the EU.1 Furthermore, because of the international nature of the shipping industry, shipping transactions will often be subject to multiple sanctions regimes. For example, a shipowner incorporated in one jurisdiction may be based and operate out of another; its lending banks will often be based in other jurisdictions; its vessel insurers in yet other jurisdictions; and its vessels will trade worldwide with charterers, sub-charterers and shippers similarly based around the globe, trading different cargoes and sailing diverse routes. In an international transaction such as this, a diligent shipowner will often face the complicated task of complying with overlapping (but not necessarily identical) sanctions regimes imposed by multiple jurisdictions, some of which may purport to have extraterritorial effect.2
A breach of an applicable sanctions regime by the owner or his charterers can have wide-ranging consequences, and not only for the shipowner. The lending banks and insurers may by extension be caught up in the breach for (directly or indirectly) facilitating or financing the breach. As a consequence, most insurance policies will now contain exclusions and/or sanctions cancellation clauses voiding the policy if there is a sanctions-related breach.
Lending banks have sought to protect themselves by conducting extended know-your-customer due diligence exercises on the owner/group entities participating in the project that they are financing and by introducing specific sanction wording into their loan agreements.
Due Diligence Checks
Lending banks perform know-your-customer due diligence checks that primarily involve confirming that entities participating in a financing (as well as their directors, officers and beneficial owners) are not on publicly available sanctions lists. Below is a brief summary of certain of these lists as well as a link to their URLs.
EU Consolidated List: A list published by the European Union Credit Sector Federations of individuals and companies that are subject to EU Common Foreign and Security Policy-related sanctions. http://eeas.europa.eu/cfsp/sanctions/consol-list_en.htm
UK Consolidated List: A list published by Her Majesty’s Treasury of the United Kingdom of individuals and companies that are subject to international sanctions in effect in the UK. https://www.gov.uk/government/publications/financial-sanctions-consolidated-list-oftargets
OFAC Specially Designated Nationals List: A list published by the Office of Foreign Asset Control of the United States Department of Treasury (OFAC) of individuals and companies that are owned or controlled by, or acting on behalf of, targeted countries, as well as groups and entities, including terrorists and drug traffickers, designated under programs that are not country specific. http://www.treasury.gov/resourcecenter/sanctions/SDN-List/Pages/default.aspx
OFAC Foreign Sanctions Evaders List: A list published by OFAC of foreign individuals and companies that have violated U.S. sanctions on Syria and Iran, as well as foreign individuals and companies that have facilitated deceptive transactions on behalf of persons or companies subject to U.S. sanctions. http://www.treasury.gov/resource-center/sanctions/SDN-List/Pages/fse_list.aspx
BIS Denied Persons List: A list published by the Bureau of Industry and Security of the United States Department of Commerce (BIS) of individuals and companies that have been denied export privileges. http://www.bis.doc.gov/index.php/policy-guidance/lists-of-parties-of-concern/denied-persons-list
BIS Entity List: A list published by BIS of individuals and companies that are prohibited from receiving items subject to U.S. export regulations unless the exporter secures a license. http://www.bis.doc.gov/index.php/policy-guidance/lists-of-parties-of-concern/entity-list (click on Supplement 4 to Part 744)
BIS Unverified List: A list published by BIS of individuals and companies that are ineligible to receive items subject to U.S. export regulations by means of license exceptions. http://www.bis.doc.gov/index.php/policy-guidance/lists-of-parties-of-concern/unverifiedlist (click on Supplement 6 to Part 744)
Historically, banks and other financiers have sought to protect themselves from sanctions exposure by including provisions in their loan documentation that (i) require the borrower to continue to comply with all applicable laws and regulations and (ii) trigger a mandatory prepayment if the making of the loan by the lender becomes illegal as a result of a change of law. Financiers have increasingly viewed these standard provisions as insufficient in dealing with their sanctions-related concerns, which include the following:
ensuring that neither the borrower nor any of its beneficial owners is a prohibited or designated person or acting on behalf of a prohibited or designated person;
ensuring that the borrower (and, by extension, any person to whom it may charter the vessel), complies with sanctions that are applicable to it and its business;
ensuring that the borrower’s business will not result in the financier violating any sanctions regime applicable
to the financier; and
ensuring that the financing itself is not otherwise facilitating or being utilised for the benefit of a sanctioned activity.
Financiers' concerns have been heightened in this regard as a result of recent well-publicized instances where heavy fines were imposed against financial institutions for sanctions-related violations,3 as well as the spectre of being unable to access the U.S. banking system (a penalty imposed by the U.S. sanctions regimes).
As a result of the evolving nature of sanctions regimes and these heightened concerns, financiers have started to adopt a more thorough documentary approach to protect themselves against sanctions-related risks in an effort to ensure that they have an effective mechanism in the documentation to exit a transaction if any of these concerns results in sanctions exposure. In syndicated financing transactions, these concerns can be heavily compounded as a result of the impact of varying sanctions regimes applicable to the syndicate banks. These varying regimes when coupled with each individual banks' internal policy requirements, which are often more stringent and restrictive than the requirements of the relevant sanctions, add a layer of complexity to the negotiation of loan documentation. From a borrower's perspective, this often results in being subject to contractual prohibitions that go beyond prohibitions imposed by law on the borrower.
Due to the transitional nature of sanctions and the competing concerns of the parties to ship financing transactions, it has not yet been possible to generate a set of standard sanctions provisions that alleviate the concerns of financiers and give shipowners sufficient comfort that they may carry out their intended business without having to devote resources to monitor compliance with sanctions regimes that, absent the financing, would not apply to the shipowner. While "one size fits all" sanctions provisions may never be feasible, in general, the considerations in reaching the documentary standard for any given ship financing transaction are largely the same:
which jurisdictions are relevant to the transaction? The jurisdictions of the bank(s), the borrower, the charterer, any sub-charterer;
the ownership structure of the ship;
the voyage route(s) of the ship (if known);
the currency of the loan (in broad terms, any U.S. dollar transactions passing through the U.S. banking system may be at risk of being frozen if they can be traced to Specifically Designated Nationals under the applicable U.S. legislation4 );
the type of vessel being financed (there are specific sanctions restrictions for certain types of ships, e.g., oil and petrochemical tankers operated in connection with Iranian energy products, or cruise ships visiting Crimea); and
what are the chartering and sub-chartering arrangements? The financier’s approach in negotiating sanctions covenants may be affected to the extent there are specific covenants in the shipowner's chartering arrangements that alleviate some of its concerns.
Shipowners and financiers should consider these factors in determining the sanctions regimes and corresponding restrictions and prohibitions applicable to a transaction, thereby facilitating the negotiation and drafting of workable bespoke sanctions provisions.
Certain maritime tracking, monitoring and security software service providers have recently developed and introduced new services that attempt to address the challenges posed by sanctions regimes. Broadly speaking, these service providers offer technology that automatically checks global sanctions lists to screen vessels for compliance, revealing a ship’s and its associates' current and past exposure to sanctions risks. Financiers have begun to take advantage of these services to run sanctions checks both prior to entering into, and during the pendency of, a transaction. Certain financiers have begun to incorporate screening technology requirements into their loan documentation that require checks either periodically or on the financier's demand throughout the term of the loan. From a shipowner's perspective, accommodating a financier's request to build screening technology requirements into the loan documentation may provide additional negotiating strength to more narrowly tailor the sanctions' covenants and representations.
International sanctions will continue to play a formidable role in the international political landscape. As mentioned, new sanctions regimes are frequently added, existing regimes are amended and others are eased or even lifted. Examples include (i) the recent relaxation of the U.S. embargo against Cuba, (ii) the possible lifting of sanctions against Iran if a deal on Iran’s nuclear capabilities can be reached and (iii) the recent extension of the EU's sanctions against Russia for another year. As a consequence of the dynamic nature of sanctions legislation and its variable application, the negotiation of sanctions clauses in shipping transactions will likely remain an exercise conducted on a bespoke basis taking into account the factual matrix relevant to the transaction, where the lenders endeavor to balance their concerns and requirements with the commercial interests of the shipowner/borrower to, as far and freely as possible, undertake its intended legitimate business.
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1 Both the United States and the EU have imposed industry-specific sanctions against Iran. The EU, for example, has imposed EU Regulation 267/2012 (as amended), which prohibits the making available of vessels designed for the transport or storage of oil and petrochemical products to an Iranian person and also the provision, directly or indirectly, of financing or financial assistance, including financial derivatives, as well as insurance and reinsurance related to the import, purchase or transport of crude oil and petroleum products of Iranian origin or that have been imported from Iran.
2 The United States has increasingly sought to subject their sanctions regimes to extra-territorial effect. To the contrary, the EU has rejected such extra-territorial effect of non-EU sanctions (Council Regulation (EC) No. 2271/96).
3 In March of this year, Commerzbank AG was fined US$1.45bn for violating sanctions against Iran and Sudan. In May, BNP Paribas S.A. was fined US$8.9bn for violating sanctions against Sudan, Cuba and Iran.
4 See OFAC Regulations for the Financial Community, January 2012, Department of Treasury.