The Practical Implementation of Dodd-Frank for End Users

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Jackson Walker, L.L.P. and WG Consulting presented a webinar focused on needs of End Users when implementing a Dodd-Frank Compliance Program. This practical webinar introduces the current landscape of …

Jackson Walker, L.L.P. and WG Consulting presented a webinar focused on needs of End Users when implementing a Dodd-Frank Compliance Program. This practical webinar introduces the current landscape of the Dodd-Frank Rules and Regulations, explains the classifications and exceptions, the compliance requirements and the practical steps for achieving compliance. By being lead by experts in deregulated energy transactions and commodity-based financial derivatives as well as seasoned experts on the software and implementation side of Dodd-Frank, this webinar serves as an informative, accurate and practical guide to anyone facing Dodd-Frank Compliance today.

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  • 1. The Practical Implementation of Dodd-Frank for End Users A Webinar Presented by WG Consulting & Jackson Walker LLP. www.wgconsulting.com
  • 2. Our Presenters Craig Enochs, Partner Jackson Walker L.L.P. Kevin Page, Associate Jackson Walker L.L.P. As an expert in deregulated energy transactions, including asset-based structured transactions, transactions for the purchase and sale of energy-related commodities, transmission arrangements and transportation for these commodities, and commodity-based financial derivative transactions, Craig will share his insights into Dodd-Frank's impacts. Kevin focuses his practice on commodity marketing and trading activities in wholesale and retail energy markets, as well as financial derivative transactions that impact energy, banking and financial services clients. Dan Masch, Director WG Consulting James Yu, Partner WG Consulting Dan's background in oil & gas commodities markets and trading software provides a knowledgeable compliment to his deep understanding of the Dodd-Frank rules and regulations and how they affect energy clients on a system and business process level. James is currently working with financial and energy clients to assist them in understanding the practical implications of the Dodd-Frank regulations and its impacts on their systems and business processes. James will share his insights into the DoddFrank technical impacts and applicable solutions for your business. Page 2
  • 3. Table of Contents Introduction Classifications & Exceptions Compliance Requirements Practical Steps for Compliance Contact Information Questions Page 3
  • 4. Beyond the Scope of Our Discussion • Swap Confirmation and Documentation Standards • Credit Support Requirements for Uncleared Swaps • Various other SD/MSP Requirements: • Documentation Procedures • Registration with CFTC • Capital and Margin Requirements • Additional MSP/SD Reporting • Anything outside of Title VII of the Dodd-Frank Act As of May 2012 Page 4
  • 5. Swaps Under Dodd-Frank • Proposed by the CFTC as “Swaps:” • Physical commodity options. • Commodity swaps and energy swaps. • Any transaction willfully structured to evade Title VII requirements. • Physical Commodity Options: • Financial transaction via payment of option premium. • Physical delivery only occurs if option is exercised. • “Trade Option” Exemption: • Offeror: either (i) an eligible contract participant (“ECP”), or (ii) a producer, processor or commercial user of the commodity subject to the option transaction and entering into the option for purposes related to its business (a “Commodity Option User”). • Offeree: must be a Commodity Option User. • Physical delivery is intended. *See CFTC Final Rule and Interim Final Rule: “Commodity Options,” 77 Fed. Reg. 25,320 (April 27, 2012). As of May 2012 Page 5
  • 6. Swaps Under Dodd-Frank (cont.) • Physical Commodity Options (cont.) • Even if the Trade Option Exemption applies and the physical commodity option is not considered a “Swap,” certain regulations still apply to the Trade Option: • Recordkeeping for regulators’ use. • Regulatory reporting if a party to the Trade Option already is required to report as to other types of Swaps. • If neither party is required to report under § 729, both parties to the Trade Option still must submit a Form TO annually with the CFTC. • Large trader reporting • Position limits • MSP/SD duties • MSP/SD reporting and recordkeeping • Capital and margin requirements • Anti-fraud provisions *See CFTC Final Rule and Interim Final Rule: “Commodity Options,” 77 Fed. Reg. 25,320 (April 27, 2012). As of May 2012 Page 6
  • 7. Swaps Under Dodd-Frank (cont.) • Forward contracts in non-financial commodities are generally excluded from the definition of “Swap.” • The parties must intend for the transaction to be physically settled at the time the parties enter into the transaction. • Physical bookouts qualify for the forward exclusion if (i) the parties regularly trade physical commodities in their ordinary course of business, and (ii) the bookout is effectuated through a separately negotiated agreement. • Embedded Options: • Physical forward contract, but option to adjust price/quantity/term. • CFTC must analyze on a case-by-case basis to determine whether a “Swap.” • Key Issue: does the embedded option undermine the overall nature of the contract as a forward contract for physical delivery? • Option to adjust price • Option to amend physical delivery requirement *See CFTC Proposed Rule: Further Definition of “Swap,” 76 Fed. Reg. 29,818 (May 23, 2011). As of May 2012 Page 7
  • 8. Classifications Swap Dealer (SD) Major Swap Participant (MSP) A SD holds itself out as a dealer in Swaps, makes a market in Swaps, regularly enters into Swaps with counterparties, or engages in activities causing itselt to be commonly known in the trade as a dealer or market maker in Swaps. An MSP maintains a “significant position” in any of the major Swap categories, has outstanding Swaps that create “substantial counterparty exposure”, enters into Swaps to hedge risks, or is a Financial Entity that is highly leveraged and maintains a substantial position in Swaps. Non-SD / MSP – End User Financial Entity  Everyone that is not considered a Swap Dealer or Major Swap Participant  Classification as an MSP, SD or End User applies on a trade-by-trade basis As of May 2012  Banks, private funds, employee benefit plans  Includes MSPs and SDs Page 8
  • 9. End User Exception to Clearing • One party is not a Financial Entity. • The Swap is used by the non-Financial Entity for hedging purposes. • Information about the Swap is reported to a swap data repository (“SDR”). • More than one party can invoke the End-User Exception. • Notice must be provided to the Commission (or SDR) on a trade-by-trade basis as to how the End User generally meets its financial obligations associated with entering into non-cleared Swaps. Notice must include: • Corporate information for the End User • SEC registration information (if applicable) • Financial obligations can be explained via: • Written credit support agreement • Pledged or segregated assets • Written third-party guarantee • Solely the electing counterparty’s available financial resources As of May 2012 Page 9
  • 10. Position Limits • Position Limits will be reported for: • 28 Core Referenced Futures Contracts (“CRFCs”). • Any Swap “economically equivalent” to a CRFC. • • Example: Swap based on the same index reference price as a CRFC. Spot-Month Limits • • Effective 60 days after CFTC finalizes and publishes the term “Swap.” • • Trading positions generally determined at close of business on the third business day prior to the last day of trading the CRFC. Separately applicable limits to physical and financial positions. Non-Spot Limits • Limits apply to trading positions held in a single contract month or all contract months combined. • Effective within one month after the CFTC has twelve months of open interest data under Dodd-Frank large trader reporting rules. As of May 2012 Page 10
  • 11. Position Limits (cont.) • Bona Fide Hedging Transactions • Exempt from position limit regulations • The transaction or position must meet all of the following criteria: • Substitute for transactions/positions in a physical marketing channel; • Economically appropriate to the reduction of risks in the conduct and management of a commercial enterprise; • Arises from the potential change in value of assets or liabilities a person owns or services a person provides; • Must offset price risks incidental to commercial cash or spot operations; • Must be established and liquidated in an orderly manner in accordance with sound commercial practices. As of May 2012 Page 11
  • 12. Historical Swap Reporting • Despite not meeting the definition of an SD or MSP, End Users do still have some obligations for reporting. • If in existence on or after April 25, 2011: • Initial data report to SDR submitted by Compliance Date: • Primary economic terms of Historical Swap • Internal Identifiers for the reporting party, its counterparty and the transaction • If uncleared Historical Swaps: must report Swap continuation data during remaining term (per Regulatory Reporting requirements). • If expired or terminated before April 25, 2011: • Initial data report to SDR submitted by Compliance Date: • Data in the reporting party’s possession as of April 25, 2011. *See CFTC Final Rule, “Swap Data Recordkeeping and Reporting Requirements: Pre-Enactment and Transition Swaps” (May 18, 2012). As of May 2012 Page 12
  • 13. Historical Swap Reporting (cont.) • Reporting Party: • Determined in the same manner applicable to reporting of new Swaps. • For End Users: Generally no reporting unless Historical Swap was entered into (i) off-exchange and not cleared, (ii) with another End User. • Compliance Date for End Users: 180 days following the later of— • 60 days following publication of the final definition of “Swap,” and • December 31, 2012.* *See CFTC Proposed Order, “Second Amendment to July 14, 2011 Order for Swap Regulation,” 77 Fed. Reg. 28,819 (May 16, 2012). As of May 2012 Page 13
  • 14. Regulatory Reporting Obligations Executed on SEF or DCM Cleared End User has no reporting requirements. Not Executed on SEF or DCM Cleared & accepted before applicable deadline* End User has no reporting requirements. Cleared & not accepted before applicable deadline* End User reports: PET data as soon as technologically practical, but no later than the applicable deadline.* Not Cleared Not Cleared End User reports: End User reports:  Valuation data on a quarterly basis.  Continuation data for the first year of reporting by the end of the 2nd business day after a change has been made to a primary economic term on the Swap. After the first year of reporting, such changes must be reported by the end of the 1st business day.  Valuation data on a quarterly basis.  Confirmation data within 48 hours after confirmation during first year of reporting; within 36 hours during second year of reporting; within 24 hours after the second year.  Continuation data for the first year of reporting by the end of the 2nd business day after a change has been made to a primary economic term on the Swap. After the first year of reporting such changes must be reported by the end of the 1st business day.  PET data as soon as technologically practical, but no later than the applicable deadline.* *Applicable deadline for swaps subject to mandatory clearing: 4 hours after execution in year 1, 2 hours after execution in year 2, 1 hour after execution after year 2 As of May 2012 Page 14
  • 15. Real-Time Public Reporting Reporting Party • If executed on an SEF/DCO, the SEF/DCO Reports Swap executed on an SEF/DCO • SDR If not executed on an SEF/DCO, and the swap includes an SD/MSP, the SD/MSP is responsible for reporting Swap not executed on an SEF/DCO & includes an SD/MSP • SEF / DCO SD / MSP SDR If not executed on an SEF/DCO, and the swap does not include an SD/MSP, then the parties will decide who will report Swap not executed on an SEF/DCO & does not include an SD/MSP As of May 2012 End User SDR Page 15
  • 16. Real-Time Public Reporting • Data: Public, non-proprietary information related to Swap—including: • • Price • Payment frequency • Whether the End User Exception applies to the Swap • Whether the Swap is cleared or uncleared • If uncleared, information on how the Swap is being collateralized • • Start date and end date Identification of the parties to the Swap is not reported Timing: As soon as technologically practicable after “execution” • “Execution”: parties are legally bound by agreeing to economic terms • Execution v. Confirmation • Reportable Swaps: Swaps executed at arms’ length, or a termination or change made at arms’ length that impacts a Swap’s pricing. • SDR Interfaces: Despite the current inability to send test files to SDRs the compliance deadlines are still expected to remain in effect. To address the tight deadline turnarounds that are being required, companies are seeking out pre-packaged software reporting solutions. As of May 2012 Page 16
  • 17. Record Retention • Despite not meeting the definition of an SD or MSP, End Users do still have some obligations for record retention. • Pre-Enactment and Transition Swap Records: • Swaps entered into and effective by July 21, 2010 (“Pre-Enactment Swaps”) • Swaps entered into after July 21, 2010 but prior to the effective date of full Swap data reporting regulations (“Transition Swaps”) • “Historical Swaps” = Pre-Enactment and Transition Swaps • Swap Records for Use by Regulators: • Records must be retained throughout life of the Swap plus five years, and at all times data must be retrievable within 5 business days if requested by regulators. Swap Executed Swap Terminated Swap Transaction Swap Plus 5 years Entity Must Be Able to Retreive Data Requested within 5 Business Days As of May 2012 Page 17
  • 18. CFTC Rule Definitions To Date Jan 2012 Apr 2012 May 2012 Summer 2012 CFTC publishes Swap data recordkeeping and reporting requirements CFTC defines Swap Dealer and Major Swap Participant CFTC publishes final Historical Swap recordkeeping and reporting requirements CFTC to define “Swap” To Be Published Published 2012 Recordkeeping, Reporting, and Designation rules have been defined. The CFTC is expected to define the term ‘Swap’ in the summer of 2012. As of May 2012 Page 18
  • 19. Impacted Business Functions Deal Execution  Trading  Deal Capture  Origination New Product Development  Front Office Analytics  Curve Development No Impact As of May 2012 Transaction Support  Contract Management  Credit  Margining  Regulatory Reporting Risk & Valuation  Valuation  P&L and Position  Limit Monitoring and Reporting  External Reporting  Operational Risk Reporting Settlements Broker / Exchange Settlements Deal Modification  ISO Settlements  Volume Actualization  Transportation Rate Verification  Pipeline Statements  Counterparty Settlements  A/R & A/P  Deal Validation  Counterparty Confirmation Potential Impact Impact of Dodd-Frank Page 19
  • 20. Internal Business Training • Deal Capture • New Fields • New Tables • Regulatory Reporting • Reporting Processes and Timing • Error Processing and Timing • Record Retention • Quick Access to Data • Position Limit Monitoring • Threshold Watch • Internal Sign-off Procedures • CCO Reports • CCO Sign-offs • Legal Implications • Anti-Evasion Rules • Market Manipulation Guidelines As of May 2012 Page 20
  • 21. Internal Policies and Procedures New internal policies and procedures will need to be enacted for End Users, including the following: Procedures Policies  Chief Compliance Officer Report – CCO will be responsible for maintaining compliance with Dodd-Frank and should receive and sign-off on a report that reflects the organizations continued compliance  Reporting - Answering and documenting key questions for your organization; such as ‘How often and to whom must we report under scenarios that align with our “normal” business practices?’  Sign-Off of Uncleared Swaps – Documentation of the internal sign-off procedures for entering into an Uncleared Swap  Trade Entry – Documentation of the new business process for entering into a Swap As of May 2012 Page 21
  • 22. Compliance Message Management System CMM is an enterprise system designed by WG Consulting and ZE, specifically for Dodd-Frank regulation requirements. The CMM system provides hands-off regulatory reporting to automate business logic and messaging, allowing the Compliance and IT departments to review the outbound and inbound messages to the CFTC and external reporting entities. • Classification: Automates financial product classification by trade • Scalability: Adaptive solutions to conform with changing regulatory landscape. • Maintenance: Effective solutions which provide minimal in-house messaging maintenance or troubleshooting needed • Monitoring: Round-the-Clock messaging monitoring service for ease of mind Validation Maintenance Classification Scalability As of May 2012 Validation: Automates data and business rules for efficient and accurate validation • Monitoring Messaging: Creates all required reports with messaging capabilities to CFTC and SDRs • Messaging Page 22
  • 23. Technical Architecture Map As of May 2012 Page 23
  • 24. Implementation Schedule The schedule below shows a sample implementation schedule for a non-SD/MSP or End User in order to achieve full compliance with the Dodd-Frank regulations. Define Scope & Gap Analysis Functional & Technical Design Build & Test Policy Rewrites Training Practical Implementation Schedule for Compliance Jun 2012 Jul 2012 Aug 2012 Sep 2012 Oct 2012 Nov 2012 *The implementation schedule above assumes that ‘Swap’ is defined and published by the CFTC in June of 2012 As of May 2012 Dec 2012 Full Compliance Required By January 2013* Jan 2013 . Page 24
  • 25. End User Checklist Transactions  Monitor transaction for classification changes  For uncleared Swaps, draft explanation to CFTC regarding how you are meeting financial obligations absent clearing Clearing House Decisions  Opt-out of clearing requirements and elective clearing, if desired  Evaluate whether to use clearinghouses and if so, which ones Reporting & Recordkeeping  Pre-Enactment and Transition Swap Reporting  Real-Time Public Reporting of Swap Data  Regulatory Reporting and Recordkeeping Monitoring  Monitor Position Limits  Evaluate Contracts for Dodd-Frank Compliance  Monitor further CFTC rulemakings and clarifications of existing rules As of May 2012 Page 25
  • 26. End User Checklist (cont.) System Updates  Data Fields  Messaging Updates  Record Reporting Updates  Record Retrieval Updates Internal Business Training  Deal Capture  Regulatory Reporting  Record Retention  Position Limit Monitoring and Reporting  Anti-Evasion Rules  Market Manipulation Guidelines  Internal Sign-off Procedures As of May 2012 Page 26
  • 27. Integrated Legal & Compliance Solution Your Organization Jackson Walker WG Consulting • Define scope of Dodd-Frank’s applicability • Identify data elements required under each new rule • Evaluate classification as an MSP, SD or End User • Perform a gap analysis of current system(s) and processes • Notify of statutory and regulatory deadlines • • Provide training as to Dodd-Frank obligations Design and develop new reports and new interfaces • Create and document new processes • Develop and facilitate necessary training • Provide interim CCO services By teaming together, WG and Jackson Walker can provide clients with a more comprehensive and integrated Dodd-Frank solution than any single consulting group or law firm can provide on their own. As of May 2012 Page 27
  • 28. Let’s Stay in Touch Craig R. Enochs James Yu Partner, Trading & Risk Management JYu@wgconsulting.com C: 832.603.1572 Partner Dan Masch Kevin M. Page CEnochs@jw.com O: 713.752.4315 Associate Director, Regulatory Compliance & Dodd Frank Solutions DMasch@wgconsulting.com C: 832.863.6659 www.wgconsulting.com WG Consulting, LLC @thewgcpromise KPage@jw.com O: 713.752.4227 WG Consulting WG Consulting 1415 Louisiana, Suite 3450 Houston, TX 77002 Page 28