CONTRACTS AND FINANCE

1. CONTRACTS AND FINANCE Introduction and ISDA Master Agreement for Economic Capital and Structured Finance/ Advanced Masters of Finance UNI ZH Date: Zurich, 12 June 2006 Author: Beat Gabathuler Klassifizierung angeben: "Streng vertraulich", "Vertraulich", "Intern", "Öffentlich"

2. Overview • The 1992 and 2002 ISDA Master Agreement The most important Provisions

3. Preliminary Questions • Creditworthiness of counterparty (Credit/Business Issues) • Jurisdiction where counterparty is set upand organised (Legal Issue) • Type / Status of counterparty (Private law versus Public law) • 1992 or 2002 ISDA Master Agreement • or local Framework Agreement

4. Preliminary Questions • CapacityPower to enter into Derivatives Transactions • AuthorityAuthority to represent counterpartyand execute binding Contracts • Suitabilityof a specific transaction for an individual client

5. Specified Entity, Part 1 (a) • Third parties or generic groups which one or both of the parties to an Agreement want to join in to Section 5(a)(v)-(vii) and Section 5 (b)(Events of Default/Termination Event) • Any Default under Specified Transaction, Cross Default, Bankruptcy and Credit Event Upon Merger under another agreement between that Specified Entity and one of the parties of this Agreement • Occurrence of Defaults or Termination Events by a Specified Entitiy also constitutes an Event of Default or Termination Event for the related party  Draw in those entities where the assets are!

6. Specified Transaction, Part 1 (b) • Section 14 of the ISDA Master Agreement(Swaps, Forwards, Options) • Specified Transactions are OTC-derivatives between the parties, its Credit Providers, or Specified Entities • Definition of Specified Transaction can be broadened(Repo Transactions; Securities Lending Transactions) • A Default under a Specified Transaction is an Event of Default under the Master Agreement

7. Cross Default, Part 1(c) • With a Cross Default a Non-defaulting Party can trigger its termination rights under its ISDA Master Agreement with a Defaulting Party when: • It is aware of a default by that Defaulting Party • In a debt agreement elsewhere (Specified Indebtedness) with a third party • Which amount is above the Threshold Amount determined in the ISDA Master Agreement

8. Specified Indebtedness, Part 1(c) • Section 14 of the ISDA Master Agreement • Borrowed money • Definition can be broadened toany obligation vis-à-vis any third party

9. Threshold Amount, Part 1(c) • Parties must agree on appropriate default threshold • Fixed sum such as e.g. USD 10m ora small percentage of shareholder's equity (from 2%up to 4%) • Smaller amount for KMUs, small pension fundsor private individuals • Greater amount for huge companies,banks and conglomerates

10. Credit Event Upon Merger, Part 1 (d) • Termination Event which will close outall Transactions if triggered • Occurrs if a party participates in a merger(or enters into a similar type of transaction) andthe "resulting entity" is "materially weaker" after such event • Bank will insist that a Credit Event Upon Merger should apply to its counterparty but often not to itself • 2002 ISDA Master Agreement greatly expandsthe Credit Event Upon Merger Termination Event

11. Automatic Early Termination, Part 1 (e) • Parties elect in the Schedule whether Automatic Early Termination is to apply in case of bankruptcy • Automatic Termination needed if Insolvency Laws provides for immediate termination if party goes bankrupt • Legal opinions to countries recommend selection of either applicability or non-applicability

12. Payments on Early TerminationPart 1(f) (1/3) • 1992 ISDA Master Agreement • Two Payment Methods Election • First Method (only non Defaulting Party can benefit)  Cherry Picking • Second Method(full two-way payments; irrespective who defaulted) • Two Payment Measures Election • Market Quotation • Loss

13. Payments on Early TerminationPart 1(f) (2/3) • Market Quotation versusLoss • Market Quotations more objective and transparent (at least for liquid vanilla transactions) average of received quotes from Market Makers • Loss (determined by Non-Defaulting Party) • Includes hedge cost • More appropriate where it would be difficultto obtain a quote for transaction(s) / portfolio • Simpler valuation • Fallback of Market Quotation is Loss

14. Payments on Early TerminationPart 1(f) (3/3) • 2002 ISDA Master Agreement • No election: Close-out Amount is now standard clause • Mixture of objective data sources (e.g. volatilities and yield curves) and subjective calculation/determination by the Non-Defaulting Party • Unpaid amounts, legal fees and out of pocket expenses are to be excluded in determination of Close-out Amount

15. Termination Currency, Part 1 (g) • Currency into which all Transactionsare converted on close-out • USD, EURO or Sterling – depending upon the domiciles or preferences of the parties • 2002 ISDA Master Agreement depending upon chosen law(English law: Sterling; New York law: USD)

16. Additional Termination Events, Part 1(h) • Additional Termination Events come in all shapes and sizes • Impossibility (Performance; Settlement is not possible) • Force Majeure (Act of God!, Strike, Governmental Edicts) • Change of Ownership (Take-over) • Downgrading (as determined by Rating Agencies)

17. Agreement to Deliver Documents, Part 3 • Part 3(a) – Agreement to deliver tax, forms, documents or certificates • Elective: list tax forms required in order to give Payer Tax Representation (e.g. W-8BEN) • Part 3(b) – Agreement to deliver other documents • Elective: Signatory book, Annual and half year annual reports, Letter of appointment of process agent • No board resolution between banks • No legal opinion if not necessary

18. Process Agent, Part 4 (b) • Receives writs or termination notices or other such legal documentation (Legal Proceedings) • If party is neither incorporated in England nor in New York (head quarter): • London or New York branch of bank (Counterparty) • Law Debenture Corporation PLC and English/N.Y. Law firms • or "Party B appoints no Process Agent. Party B represents that, if, in case of any dispute arising out of or in connection with this Agreement, Party A so requests…"

19. Multibranch Party, Part 4 (d) • Many Banks have more than one office throughwhich they enter into OTC Derivatives Transactions • Specify the identity of those branches through which they wish to enter into OTC Derivatives Transactions underthe Agreement (Global Book Positions) • Enlarged Netting effect (Multibranch Netting)

20. Calculation Agent, Part 4 (e) • Term not defined in the ISDA Master Agreement butmay be found in the 2000 ISDA Defintions • The Schedule requires that the partiesdesignate a "Calculation Agent" • Banks are almost always designated as the Calculation Agent because of its financial sophistication in theOTC derivatives area

21. Governing Law, Part 4 (h) • Section 13 (a) of the ISDA Master Agreement • Laws of the State of New York or English law

22. Set-off is not Netting! Set-off, Part 5 • Set-off has always been recognized asimportant in the OTC derivatives area • Cancelling out of mutual debts and credits, thus... • Expansion to include affiliates • 2002 ISDA Master Agreement

23. CONTRACTS AND FINANCE • Introduction to the ISDA Master Agreement • Beat Gabathuler • Zürcher Kantonalbank • Head Documentation Trading Products • Phone: +41 (0)44 / 292 23 08 • Email: beat.gabathuler@zkb.ch