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Spanish Financings & Events Of Default: When Is A Default Really A Default?

By Íñigo Rubio & Ignacio Buil Aldana
Posted: 25th March 2013 09:03
General overview of Spanish case law with respect to Event of Default/Early Termination clauses
In the current economic context, many Spanish borrowers and lenders are closely looking at the events of default set forth in their financing agreements to carefully assess whether they are in the verge of entering into any of those events which would allow the lenders to accelerate their facilities.  In this regard, as it is international market price, financings under Spanish law include a wide array of events of default which range from, for example, breach of payment, breach of financial covenants (loan to value – LTV – or indebtedness ratios), breach of negative covenants (such as general prohibition to sell assets) or even filing for insolvency protection (including pre-insolvency under section 5bis of the Spanish Insolvency Act).
A frequent question asked to Spanish counsel is; what is the “real” ability of the lender to call on the default of the loan based on the contractual events of default mutually agreed by the parties to the contract.  Applying these events of default will grant the lender the ability to terminate the contract and initiate those contractual or legal actions which may be necessary to enforce its rights and get repaid (i.e., enforcement of that collateral granted as security).  Even if the intuitive answer is that the contract should be the law when it comes to address the relationship between the parties and, therefore, the lender should be able to call on the default based on the early termination clauses set forth in the contract, the Spanish Supreme Court (“SSC”) case law is restrictive when it comes to admit the validity of certain events of default.
In this regard, the SSC has generally admitted the validity of contractual events of default under article 1.255 of the Spanish Civil Code (principle of free will of the parties) as long as such clauses are fair (justa causa) and represent a “true and express breach of an essential obligation” under the applicable contract (i.e, the borrower defaults on payment). 
In light of this general rule, the SSC has declared null and void those event of default clauses which are based on facts which constitute an irrelevant breach of contract, which exclusively depend on the lender’s will and arbitrary determination of the existence of such fact or that if applied as set forth in the contract would result on a disproportionate and unfair detriment to the borrower.  Therefore, the SSC is not only focused on the literality of the clauses to determine its validity but, instead, closely analyses how these clauses are applied by the lender depending on the specific facts at hand (that is, if those clauses are applied either in a licit or abusive way).
Analysis of the validity of frequent event of default clauses under Spanish law
We will now analyse specific event of default clauses which are of general use in Spanish financings (subject to Spanish law) and how Spanish case law has assessed the validity of these in light of the SSC general doctrine with respect to events of default:
Breach of payment.  Events of default based on breach of payment are accepted by Spanish case law, even if such breach of payment is solely with respect to one payment installment and is a punctual breach (i.e., SSC 16 December 2009 [RJ 2010/702]).  However, this same case law provides that it is not valid to call on the default of a facility based exclusively on the mere delay of payment by the borrower.
Breach of LTV ratio.  Clauses for early termination resulting from a drop in value of the collateral granted as security (breach of LTV ratio) are also accepted by Spanish case law (i.e., Provincial Court of Madrid, 12 November 2002 [JUR 2003\24010] and 11 May 2005, [AC 2005\832]).  To keep throughout the life of the facility a proper level of security is considered to be an essential obligation of the borrower and, therefore, events of default based on LTV breaches (which precisely tackle this obligation) satisfy the criteria set forth by the SSC when assessing the validity of events of default.  Moreover, as the breach of LTV ratios normally results in the obligation by the borrower to anticipatory repay the principal of the facility up to the amount necessary to rebalance the breached ratio, generally a breach of a LTV ratio can also imply the breach of a payment obligation under the relevant contract (which is, in turn, also an event of default).
In contrast, the breach of other financial ratios (i.e., net financial debt/EBITDA, debt service coverage ratio) may not be considered as a valid ground for accelerating a facility because these ratios are not related to the borrower’s obligation to keep throughout the life of the facility a proper level of security and, therefore, breaching these ratios they cannot be considered an essential breach of the borrower’s obligations under the financing agreement.
Material Adverse Effect/Change.  Events of default based on MAE/MAC clauses are not seen favorably by Spanish case law due to its general broad terms and because it is understood that the determination of whether a MAE/MAC applies in a specific case generally depends on the lender’s sole discretion.  As explained above, Spanish case law is reluctant to admit the validity of event of default clauses which are based on facts that rely heavily on the individual or arbitrary determination by the lender.
Borrower’s insolvency.  “Ipso facto” clauses are not accepted by section 61.3 of the Spanish Insolvency Act and are, instead, considered null avoid.  However, some scholars have argued that while the borrower’s insolvency cannot operate as an automatic termination event of the facility (in light of the general prohibition set forth by the Spanish Insolvency Act) it can be a valid event of default.  However, from recent decisions it appears that the SSC is following the criteria pursuant to which section 61.3 applies both to automatic termination and events of default.
Breach of negative covenants consisting on prohibition of asset disposals.  In general, pursuant to the rules set forth by the Spanish Mortgage Act (Ley Hipotecaria), generic prohibitions to dispose of mortgaged assets and absolute prohibitions of asset disposals are null and void, as they are deemed to be against imperative legal rules set forth by the above referenced Act.  These clauses can, instead, be accepted if included in contracts where no consideration exists, even if in these cases restrictions must be limited in time.
However, certain non-absolute prohibitions to dispose of assets can be valid according to Spanish case law even if such prohibitions will have no access to the applicable property registry (sin trascendencia real) and will only have effects between the contract parties (inter partes) and not with respect to third unrelated parties (no erga omnes effect).
Breach of representations (“reps”) and warrantiesSpanish case law has understood that events of default based on the breach of reps and warranties are valid if this breach relates to those reps and warranties which were essential to build up the will of the lender to grant the financing (i.e., Provincial Court of Cádiz, 22 July 2004 [JUR 295712].
Cross-default.  The validity of events of default based on cross-default will depend on the specific facts at hand and the relevance that the breach of that other contract by the same borrower may have for the lender and for the general confidence among the parties that should preside the life of the contract and which absence may justify the acceleration.
Breach of other obligations under the financing agreements.  Those events of default which are generic and based on the breach by the borrower of any obligations that may exist under the financing agreement, even if such obligations are not principal but secondary, are generally not accepted by Spanish case law.
Events of default based on essential obligations under the relevant financing agreements raise no concerns when it comes to call on the default of agreements subject to Spanish law.  Within this category we can find the breach of payment or the breach of those ratios which tackle the minimum value that the security package must have with respect to the whole outstanding amounts under the facilities (LTV ratios).
However, when it comes to other events of default, and despite the fact that they are widely use in Spanish law financings and can be considered market practice, should litigation arise in connection with these other clauses the outcome is much more uncertain.  In these cases, Spanish courts would do a two-fold analysis based on the actual wording and literality of the clauses and, above all, would scrutinise how these clauses have been, or will be applied, by the lender and if such application can potentially constitute an unfair prejudice to the borrower.
Therefore, even if Spain remains to be a “borrower friendly” jurisdiction (being the referenced case law an example of this assessment) it is also true that the reality of the Spanish financial practice is growingly resulting in a wider acceptance of international market standards by Spanish courts and case law which will likely result in further developments with respect to the different issues related to the validity of contractual events of default analysed in this article.
With almost a century of professional practice and an excellent reputation, Cuatrecasas, Gonçalves Pereira provides legal advice in all areas of business law, including advice relating to financial restructuring processes, advising both debtors and creditors on issues including preliminary analysis of debt to be restructured and the options in a financial distress situation.  The firm participates in all stages of Spanish and cross-border complex deals involving reorganisations, restructurings, workouts, liquidations and distressed acquisitions.  For more information, visit
Iñigo Rubio is a partner at Cuatrecasas, Gonçalves Pereira's London office.
Mr. Rubio specialises in advising on the financing of infrastructure projects (public private partnerships and private finance initiatives) and real estate projects, whether simple, syndicated or structured (e.g., sale-and-leaseback and off-balance sheet transactions).  He also has ample experience in corporate and asset finance, and debt restructuring transactions, having participated in several of the most important and complex refinancing processes in recent years.  Since joining Cuatrecasas, Gonçalves Pereira in 2000, Mr.  Rubio developed most of his career in the firm’s Madrid office before transferring to the London office in January 2010.
Mr. Rubio can be contacted on +44 (0)20 738 20400 or by email at
Ignacio Buil Aldana is a senior associate at Cuatrecasas, Gonçalves Pereira's Madrid office.
Mr. Buil Aldana has extensive experience in financing transactions and debt restructuring operations (both judicial and out-of-court) and negotiation of financing and refinancing agreements with respect to a wide range of capital structures including the refinancing of LBO financings, project finance, real estate finance and corporate finance.  Ignacio represents both borrowers and lenders and advises financial institutions, hedge funds and private equity funds in financing and refinancing transactions and distressed investing strategies.  Ignacio has also participated in several national and multijurisdictional financing transactions.
Mr. Buil Aldana can be contacted on +34915247603 or by email at

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