Things looked bleak for North West property firms affected by mis-sold interest rate swaps. But there is some light at the end of the tunnel, says Alison Loveday of law firm Berg.
It is just over a year since the rampant mis-selling of interest rate swaps by high street banks first made headlines. The Financial Conduct Authority, the successor to the Financial Service Authority, estimated that 40,000 UK businesses were affected by mis-sold swaps. Other estimates were as high as 100,000.
What we do know is that bank staff, under pressure from their bosses, pressured businesses into buying these products. Interest rate swaps are in a way very logical. They hedge against the risk of rising interest rates which, pre-2008, was a very real concern for companies. However, many of these swaps imposed massive charges if rates were lowered, which they were in early 2009, to just 0.5%. The problem is that, often, businesses weren't warned about this. An FSA investigation earlier this year found that 90% of interest rate swaps were mis-sold.
The impact of these mis-sold products was particularly acute in the property sector. As a firm we are currently handling more than 60 cases of mis-sold swaps against banks, of which about a third involve property companies. Opal Property Group, which collapsed earlier this year with debts of more than £900m, was just one of many North West businesses adversely affected by swaps.
It is not difficult to see how we got into this mess. In the years up to 2008, when the UK property market collapsed, real estate businesses generally enjoyed good relationships with their banks – perhaps not surprising given that property prices were rising and debt financing for projects was plentiful. In many cases, and this was confirmed by our clients, banks were originating deals for developers, identifying sites and then providing the debt to acquire them.
But when the market took a dive it left many property businesses with large debt piles and without the finance to develop their land.
Of course, against that pre-crash backdrop of 5% interest rates which could rise at any time, it is not difficult to see why so many property companies bought financial products which hedged against an increase. Many developers have debt-to-turnover ratios that would give the boss of, say, a manufacturing business, nightmares, so interest rate fluctuations affect them disproportionately compared to most firms.
The result was that many property companies were left unable to exit the interest rate swaps – many facing huge monthly payments – and they became 'zombies': struggling to service debt and without the cash to invest and grow. Some are kept alive by banks under political pressure to be seen to be supporting the economy. Others were forced into insolvency. Even if the business can service its debts, other breaches of covenant, such as the loan-to-value ratio, are relied upon by the bank to appoint administrators. One such company is Opal, being a property firm hampered by an interest-rate swap that was subsequently forced into administration.
The North West remains at the coalface of the damage wreaked by mis-sold interest-rate swaps and I have seen first-hand the distress and damage caused by mis-sold swaps. Meanwhile, with interest rates low and property prices stagnant, the market feels artificial, but is unlikely to change anytime soon.
However, we must sound a note of optimism. Even as businesses survive merely as zombies, many are fighting for compensation for the losses incurred by mis-sold swap products. Property companies are disputing the contracts and how they have been implemented. As firms claw back what they are owed, they will have more cash on their balance sheets to invest and grow, boosting the economy. The fight-back by businesses has begun.
Alison Loveday is managing partner of Berg, which has offices in Manchester and London