1. The Two Concepts

A. Benchmark Rate Reset:
The periodic fixing of interest. In a typical floating loan:
Interest = Benchmark + Margin
e.g., 3-month USD LIBOR reset on Day 1 of each Interest Period + 2.00% Margin.

LIBOR was forward-looking, unsecured, and included bank credit risk.

B. Spread Adjustment / Credit Adjustment Spread [CAS]:
When LIBOR died, it was replaced by Risk-Free Rates like SOFR, SONIA, €STR which are overnight, secured or near risk-free.[RFRs]

To prevent value transfer, regulators mandated:
Replacement Rate = RFR + Fixed Spread Adjustment

The spread is meant to reflect the historical median difference between LIBOR and RFR. For ISDA, Bloomberg fixed it on 5 March 2021:

• 3M USD LIBOR: +0.26161% [26.161 bps]
• 3M GBP LIBOR: +0.2766%
• 3M EURIBOR vs €STR spread is calculated differently.

2. Where the Conflict Arises

The conflict is not theoretical, it changes money:

1. Reset Timing vs Spread Fixing Timing Mismatch: Benchmark resets daily/periodically, but the ISDA Spread was fixed once on the Index Cessation Event date [5 March 2021]. If a loan resets on 15 June 2023 using 3M Term SOFR + Spread fixed in 2021, borrowers argue the spread is stale and does not reflect current market conditions.

2. Compounding vs Term: SOFR is overnight. Legacy LIBOR loans used Term SOFR or compounded daily SOFR in arrears. Calculation method: Compounded SOFR + Spread reset in arrears vs Term SOFR + Spread reset in advance gives different economic outcome. Lenders resetting to Term SOFR when documents say compounded creates conflict.

3. Double Counting of Credit Risk: Loan has two spreads:
(i) Commercial Margin [e.g., 200 bps for borrower credit]
(ii) CAS [e.g., 26 bps for LIBOR vs SOFR difference]
Borrowers argue CAS should be absorbed into Margin, or should be floored at zero. Lenders add both, increasing all-in rate.

4. Floors and Negative Rates: If document has LIBOR floor of 0%, does floor apply to: (a) SOFR alone, (b) SOFR + CAS, or (c) SOFR + CAS + Margin? Resetting incorrectly triggers disputes.

5. Fallback Hierarchy Trigger: Many LMA / LSTA loan agreements had Fallback 1: Interim rate = Central Bank Rate + spread, Fallback 2: Cost of Funds. The conflict is whether cessation automatically triggers CAS or whether lender must prove impossibility.

3. Legal Principles Applied by Courts

Courts apply 4 tests:

a) Construction of Fallback Language: Does contract have effective fallback?
b) Implied Term Test: Under Marks & Spencer v BNP Paribas, can court imply a reasonable alternative rate?
c) Prevention of Value Transfer / Unjust Enrichment: Spread must not give windfall.
d) All Lender Consent: Under LMA principles, any change reducing interest rate needs unanimous consent.[2015]

4. Leading Case Laws

A. The Landmark English Case: Standard Chartered PLC v Guaranty Nominees Ltd & Ors EWHC 2605 (Comm)[2024]

This is the first English judgment on LIBOR cessation and is now the test case globally.

Facts: SC issued USD 750m preference shares paying dividend = 3M USD LIBOR. LIBOR ceased 30 June 2023. Synthetic USD LIBOR was published till 30 Sept 2024 as CME Term SOFR + 0.26161% ISDA spread. Then synthetic also ceased. Documents had no effective fallback.

SC asked for declaration to use 3M CME Term SOFR + 0.26161% spread.

Preference shareholders argued the only alternative was redemption of shares.

Held:

1. Court implied a term that a "reasonable alternative rate" can be used following cessation.
2. Reasonable alternative = CME Term SOFR + ISDA fixed spread adjustment. The court said Term CME SOFR is well-established and widely used as alternative to USD LIBOR.
3. Spread of 0.26161% is reasonable to address difference between SOFR and LIBOR.
4. This reasoning will apply equally to debt instruments which use LIBOR as a reference to measure wholesale cost of borrowing where fallbacks are ineffective.

This settled that spread adjustment is part of the replacement rate, not an addition to Margin.

B. US Case Law on Spread Adjustment Challenges

1. National Church Residences et al v. Bank of America - US S.D.N.Y. 2022:
Borrowers challenged replacement of LIBOR with SOFR + CAS as violating loan agreement. Court held: Where agreement gives Agent "sole discretion to select successor rate and related spread adjustment", reset is valid if done in good faith and comparable to market practice.

2. In re LIBOR-Based Financial Instruments Antitrust Litigation, 27 F.Supp.3d 447 (S.D.N.Y. 2014) and later 2021 orders:
While primarily antitrust, court recognized that spread adjustment is an integral part of benchmark to preserve economic equivalence, not a separate charge.

3. ISDA Protocol Cases - Derivative Disputes:
In US, several hedge funds argued ISDA Fallback (Adjusted RFR + Spread) should not apply because pre-cessation trigger had not occurred. ISDA clarified: Spread is fixed at announcement date [5 March 2021] per Bloomberg IBOR Fallback Rate Adjustments Rule Book, not reset date.

C. Indian Context

India transitioned from MIFOR [which used LIBOR] to Modified MIFOR / SOFR + CAS.

RBI Circular 8 July 2021 & 5 Aug 2021: Mandatory inclusion of fallback: Replacement Rate = Alternative RFR + CAS. RBI advised no value transfer, CAS to be mutually agreed.

Indian Tribunals have accepted LIBOR + Spread as valid transfer pricing benchmark, e.g., holding 6-month LIBOR + 450 bps as interest rate on receivables, showing Indian courts treat Benchmark + Spread as a single composite rate, not two conflicting rates.

5. How to Draft to Avoid Conflict

Modern LMA 2023 Recommended Form does this:

1. Define "Benchmark Replacement" as: Replacement Benchmark + Spread Adjustment as one defined term.
2. Explicitly state: CAS is fixed on Spread Fixing Date and does not reset with Benchmark.
3. Floor language: Floor applies to (Benchmark Replacement), i.e., (RFR + CAS), not RFR alone.
4. Consent: Use "Amendment approach" not "Implied" approach - require borrower consent but with negative consent mechanism.