When rating agencies downgrade the credit ratings of South Africa’s banks or the country’s sovereign credit rating, whether justifiably or not, it raises interesting questions for the operation of project financing agreements.

Definitions in finance documents designate a class of financial institutions as ‘acceptable banks’. This definition is commonly used in project finance transactions as a benchmark to limit the financial institutions that a lender may syndicate to or sell down to and to limit the financial institutions that a lender will accept for purposes of providing borrower credit support.

The ‘acceptable bank’ definition in South African project finance loan agreements usually references the four big South African banks, or a financial institution having a credit rating provided by an internationally recognised credit agency such as Moody, Fitch or Standard & Poor, or an institution selected with the consent of the facility agent. Typically the reference to the credit rating of a financial institution is either drafted narrowly and is linked to a fixed credit rating such as Baa3 or higher as provided by Moody’s, or in a broad and general manner linking the credit rating to the sovereign, international credit rating of South Africa.

While the definition allows South African banks to take transfer from an existing lender and to issue the relevant credit support on behalf of a borrower despite a downgrade, the downgrading mechanics become relevant when looking to syndicate to the local or international markets, or with borrowers seeking to rely on international financial institutions to issue credit support documents. Parties should consider distinguishing between local and international rating references in the definition of ‘acceptable bank’ as a means of mitigating any potential effect of a downgrade by a rating agency.