Default and Bankruptcy Lessons From Recent Financial Litigation and - - PowerPoint PPT Presentation

Lender Liability: Defending Against Attacks

• n Loans in Workout, Modification,

Default and Bankruptcy

Lessons From Recent Financial Litigation and Best Practices for Evaluating and Minimizing Claims

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TUESDAY, APRIL 21, 2015

Presenting a live 90-minute webinar with interactive Q&A Richard Donovan, Member, Rose Law Firm, Little Rock, Ark. Zachary G. Newman, Partner, Hahn & Hessen, New York

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April 21, 2015 LENDER LIABILITY: DEFENDING AGAINST ATTACKS ON LOANS IN WORKOUT, MODIFICATION, DEFAULT AND BANKRUPTCY LESSONS FROM RECENT FINANCIAL LITIGATION AND BEST PRACTICES FOR EVALUATING AND MINIMIZING CLAIMS

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This CLE live web seminar will analyze the most common types

• f lender liability claims, discuss how they are being asserted

in various phases of the lending cycle and in bankruptcy, and explain lessons learned from recent financial litigation. The panel will outline best practices to minimize and avoid the risk

• f lender liability claims.

Following the speaker presentations, you'll have an

• pportunity to get answers to your specific questions during

the interactive Q&A.

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Your Moderator

Zachary represents national banking associations, commercial lenders, leasing companies, and hedge funds in business litigation throughout the United States. His practice focuses on

• Banking Litigation (enforcing multi-

million dollar credit facilities on behalf of national and regional banks and institutional and specialty lenders, securing provisional remedies, and defending lender liability litigation);

• Commercial

Litigation (litigating contract disputes, commercial insurance claims, aircraft lease disputes, unfair competition and restrictive covenants, bankruptcy disputes, and judgment enforcement); and

• Fiduciary

Litigation (contested accountings, Prudent Investor Act claims, and breach of fiduciary duty claims). Fordham University School of Law (’94) Co-Chair of the “Banking and Lender Liability Litigation Subcommittee”

• f the American Bar Association’s

Commercial and Business Litigation Committee. Co-Chair, Litigation Management Subcommittee of the America Bar Association Corporate Counsel Committee New York Metro Area Super Lawyers 2011-present

212.478.7435 Znewman@ hahnhessen.com

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Best Lawyers in America - 2006-2014 Editions - Commercial Litigation; Bet-the- Company Litigation, Litigation - Banking & Finance, and Litigation – Securities Chambers USA Leading Lawyers, 2004- 2013, Litigation: General Commercial Mid-South Super Lawyer Top 50 Lawyers in Arkansas, 2011-2013 Pulaski County, Arkansas, and American Bar Associations; Member, American Board of Trial Advocates; Master of the Bench, Henry Woods American Inn of Court; St. Thomas More Society, Member University of Arkansas, Bachelor of Arts, University of Arkansas, Juris Doctor (honors) Member, Arkansas Law Review

Guest Speaker

Richard Donovan

501.377.0325 rdonovan@ roselawfirm.com

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Introduction to Our Program

9

• Banking, lending, financial services, and private equity

have been subject to substantial criticism:

• Websites (e.g., stopgreedybanks.com)
• Courts
• Borrowers
• Editorials
• Blogs
• The current economic environment has created heightened

tensions between lenders and borrowers

SCORECARD

HEADLINES

11

ELECTED & COURT OFFICIALS ARE NOT RELUCTANT TO SPEAK THEIR MIND

• Representative Barney Frank, Chair of House Financial Services

Committee, recently had a “blunt” statement to Bankers:

• “People really hate you, and they’re starting to hate us

because we’re hanging out with you.”

• http://www.politico.com/news/stories/0209/18372.html
• In an Orange County mortgage modification case, Justice

Catherine M. Bartlett cut off the bank lawyer who argued the proper documentation was not submitted and noted:

• You, she said, are telling me lies … [The bank] got a

bailout, and this is an outrage, how this man has been treated … Hard-working, middle-class Americans are trying to make it, trying to refinance with your bank … Either bank officials show up in person, or I’m going to

• rder them here in handcuffs.

12

“HE MUST HAVE DONE IT BECAUSE THEY DID IT”

• From A Recent Brief Filed By A Borrower

(A Lawyer, And A Former Bank Executive):

• Through its acts and omissions, [the Bank] – like so

many mortgage lenders and other banks in recent years – acted in bad faith and/or negligent manner to the detriment of [us borrowers] ....

• While courts in New York and elsewhere are holding

lenders accountable for such conduct, [the Bank] nevertheless seeks to shield itself from the consequences of its own actions ....

13

WHY THE RISE IN CLAIMS? HERE ARE SOME CONTRIBUTING FACTORS

• Rise in corporate defaults
• Distressed loans
• Secondary markets and assignments
• Constriction of availability / deepening insolvency
• Busy court dockets
• Deep pockets become the focus
• The plaintiff’s bar
• Club deals - participations - syndicated loans
• Underwriting criteria
• Health of the loan documents

14

LAWYER ADVERTISING AND BORROWERS FLEXING THEIR MUSCLES

• Google Answers Post:
• I am looking for examples of borrowers who have

(successfully) sued banks for issuing them a highly risky loan. I'd appreciate any pointers to U.S. legal precedence for action taken against a bank for giving someone a risky loan.

• http://answers.google.com/answers/threadview?id=531128
• Times Magazine:
• Do banks, those powerful and wise institutions, sometimes

behave like bullies? While quite a few borrowers would say yes, U.S. banks have long seemed virtually immune to retaliation for heavy-handed tactics. Now, however, hundreds of borrowers are taking their lenders to court and winning.

• http://www.time.com/time/magazine/article/0,9171,967374,00.html

15

THE STIGMA OF AFFIRMATIVELY ACKNOWLEDGING A DEBT IS NON-EXISTENT

• Danny Tarkanian, a U.S. Senate candidate, filed suit

against La Jolla Bank in Las Vegas seeking to avoid a debt noting:

• “It’s something happening quite a bit in this

environment … Unfortunately, we’re caught in the middle of it.”

• http://www.lasvegassun.com/news/2010/jan/22/tarkanian-family-sues-bank-avoid-propertys-

foreclo/

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SERIOUS RISKS OF LENDER LIABILITY

• Delay in recovery
• Increased legal fees
• More extensive discovery required
• Imposition of counterparty legal fees
• Recharacterization of debt
• Equitable subordination
• Cancellation of debt
• Compensatory damages (lost profits – speculative)
• Reputational damage (fraudulent and predatory lending

claims)

• Client resources (witnesses; document production; electronic

discovery; in-house counsel)

17

NOT A MATTER OF WINNING VS. LOSING: MEASURE SUCCESS IN TERMS OF DELAYS

TSL (USA) Inc et al v. OppenheimerFunds Inc et al, New York State Supreme Court, New York County, No. 600976/2010

• On the other hand, it may be difficult for a lender to recover if they lend funds

under circumstances in which they are found to have been without all material facts.

• The lenders alleged that Oppenheimer breached its duty under a certain

administration agreement by failing to notify them of four amortization events that occurred as a result of non-conforming securities purchases, and two additional events when expenses exceeded revenue for certain transactions.

• The lenders claimed they continued lending without being told of the events,

and they could have terminated funding. The judge dismissed the fraudulent inducement claim with prejudice. No damages. The portfolio is performing and the theory of recovering loans lent is simply too speculative.

• Court acknowledged that the specific performance claim could be replead to

permit the lenders to claim Oppenheimer is obligated to replace the non- conforming securities with conforming securities.

18

TRENDING …

• Loan commitment and failing to lend
• Conduct, waivers & modifications
• Good-faith and fair dealing
• Exercise of control
• Declaring defaults & loan modifications
• Dealing with collateral
• And more …

19

LOAN COMMITMENTS, TERM SHEETS & THE “FAILURE TO LEND” CLAIMS

20

INTRO TO TERM SHEETS AND LETTERS OF INTENT

• Clearly Identify Binding v. Non-Binding Obligations
• Agreeing to Negotiate?
• Use Separate Sheets for Binding and Non-Binding Terms
• Specific Terms v. Ranges
• Be Careful Using Phrases “I Agree” or “I will fund the loan if”
• Clearly spell out conditions to funding
• Conduct Matters
• Context of Statements
• Be Consistent in Statements to Borrowers
• Partial Performance?
• Industry Custom?
• Liability for Costs & Expenses
• KEEP IT SIMPLE

21

REVIEW ALL CONDUCT & COMMUNICATIONS TO DIVINE THE TRUE NATURE AND SCOPE OF THE AGREEMENT

• Actions can speak louder than words
• Can negotiated protections under loan agreements be waived by lenders’

course of conduct with borrowers?

• Common Sense Rules:

1. Include express reservation of rights language in all written correspondence with borrowers. 2. Avoid informal modifications or waivers of agreement’s terms. 3. Include “no oral” waiver language in agreements and amendments. 4. Include settlement language in all documents and communications reflecting negotiations.

a) “Submitted in furtherance of settlement negotiations” b) Subject to FRE 408 / Inadmissible in Court”

5. Refrain from editorializing in internal documentation or correspondence with the borrower. 6. Put everything in writing! But be mindful that whatever is put in writing may end up in court even if the lender believes it is protected.

22

LENDER’S CONDUCT, WAIVERS AND MODIFICATIONS

23

THE INITIAL LOAN DOCUMENTS PROVIDE A ROAD MAP FOR THE UNDERLYING LOAN TRANSACTION

• If a lender deviates from its commitment after it has been accepted by

the borrower, then the possibility for lender liability claims arises.

• What if underwriting and due diligence documents demonstrate that a

covenant is unattainable?

• Failing to fund will be inevitably challenged by the borrower in a

subsequent proceeding.

• Defaults can be many shades of gray.
• If a borrower acts in reliance on a bank officer’s oral promise to make a

loan, equity may intervene to protect the borrower.

• What about oral modification clauses?
• Issuance of a commitment letter or term sheet may require a lender to

pursue negotiations in good faith, even if market conditions have declined.

• Why can’t the lender simply shut down the negotiations?

24

DEVELOPING ENFORCEMENT AND LIQUIDATION PLANS

• Where to Enforce: Forum Selection Clauses
• What Country?
• What Court?
• State or Federal?
• Where and How Can You Serve Legal Papers, and Who Must Get Them?
• Agents
• Registered Mail?
• Upon Default, What Are Your Rights?
• Right to Hold Collateral While Suing On Debt?
• Duty to Take Possession of Collateral?
• Right to Break and Enter?
• Consent to Immediate Attachment/Replevin even if counterclaims/defenses to

debt?

• Waivers?
• What is Commercially Reasonable?
• Private v. Public Sale?
• Notice obligations?
• Where Must Notice Be Given? Newspaper? Trade Journal?

25

LENDERS’ EXERCISE OF TECHNICAL, FINANCIAL, AND NON-PAYMENT DEFAULTS?

• The “material adverse change” clause.
• The MAC clause at issue provided that Wachovia may terminate the

LCA if there is material adverse change in the capital, banking and financial market conditions that could impair the sale of the loan by Lender as contemplated in the term sheet.

• Clear or not? Ambiguous or designed?
• The issue typically becomes whether MACs apply
• nly to unforeseeable events, or foreseeable events.
• In Capitol Justice LLC v. Wachovia Bank, N.A., (D. D.C. 2009), the

court said ambiguous because there is more than one interpretation that a reasonable person could assign to the MAC when viewing the contract in the context and circumstances surrounding the agreement.

26

FRAUD BY OMISSION – YOU FOUND WHAT IN OUR FILES?

PNC argues that Counter Plaintiffs have not, and cannot, do so because, among other things, a lender has no duty to a borrower to disclose information, such as an appraisal, and the borrower has no right to rely upon the lender's appraisal. PNC's argument overlooks another line of authority in Florida law that suggests that, under certain circumstances, a lender may have a duty to disclose information to a borrower. Citing the Florida Supreme Court’s ruling in Barnett Bank of W. Fla. v. Hooper, 498 So.2d 923, 925 (Fla. 1986): [W]here a bank becomes involved in a transaction with a customer with whom it has established a relationship of trust and confidence, and it is a transaction from which the bank is likely to benefit at the customer's expense, the bank may be found to have assumed a duty to disclose facts material to the transaction, peculiarly within its knowledge, and not otherwise available to the customer.

PNC Bank, N.A. v. Lucmaur, LLC (M.D. Fla. 2014)

27

LOAN MODIFICATIONS IN CALIFORNIA Jolley v. Chase Home Finance, LLC, 213 Cal. App. 4th 872, 153

• Cal. Rptr. 3d 546 (Cal. App. 1st Dist. 2013)
• Modified an entire body of case law by holding that whether

a lender can be liable for negligence is a question of fact.

Thus, summary judgment is not necessarily available to easily dispose a disgruntled borrower’s negligence claims

• Chase’s statements to the borrower that the requested

modification was “highly probable,” “likely” and “look[ed] good” were not just opinion, and could be fraudulent.

• The court: “[T]he world [has been] dramatically rocked in the

past few years by lending practices colored by short-sighted self-interest”

28

NOT ALL COURTS ARE HAPPY ABOUT JOLLEY

We disagree with Jolley to the extent it suggests a residential lender owes a common law duty of care to offer, consider, or approve a loan modification, or to explore and offer foreclosure alternatives.

Lueras v. BAC Home Loans Servicing, LP, 221 Cal. App. 4th 49 (Cal. App. 4th Dist. 2013)

Jolley does not appear to be the majority rule. Courts routinely dismiss negligent misrepresentation claims based on promises or predictions regarding the future. See, e.g., Ehlert v. Am.'s Servicing Co., 2011 WL 4862426, at *6 (S.D. Cal. Oct. 12, 2011) (dismissing negligent misrepresentation claim alleging loan servicer promised mortgagor would receive a modification after making trial payments); Moreno v. Wells Fargo Home Mortg., 2011 WL 1375687, at *3 (S.D. Cal. Apr. 12, 2011) (dismissing negligent misrepresentation claim where loan servicer promised to try to help mortgagor keep home).

McLaughlin v. Aurora Loan Servs., LLC, 2014 U.S. Dist. LEXIS 62142, 19-20 (C.D. Cal. Apr. 28, 2014)

29

CALIFORNIA AGAIN? WHY IT SEEMINGLY DESPISES THE PAROL EVIDENCE RULE

Riverisland v. Fresno-Madera Credit Assn. (Ca. 2013)

• Plaintiff filed an action for fraud and negligent

misrepresentation, alleging that the bank’s vice-president

• rally promised that the loan extension would be for two

years and only required two additional property as additional collateral.

• Abrogated California case law from 1935, regarding

evidence offered to prove fraud for purposes of the parol evidence rule.

• Affirmed reversal of summary judgment for defendant.

30

FLORIDA WEIGHS IN ON NEGLIGENT MISREPRESENTATION

In Dixon v. Countrywide Home Loans, Inc., 710 F. Supp. 2d 1325 (S.D. Fla. 2010), the borrower argued the lender promised different financing terms from those included in the loan documents. The court barred the claim under the Banking Statute of Frauds. Furthermore, the borrower could not establish reasonable reliance when the purported misrepresentation is contradicted by the express terms of the signed loan documents. In Coral Reef Drive Land Development, LLC v. Duke Realty Limited Partnership, 45 So. 3d 897 (Fla. 3d DCA 2010), the Third District stated that “[t]he world of commercial real estate is not a warm and fuzzy place. That is why parties to substantial transactions consult counsel and prepare highly-detailed written agreements to address every contingency the parties and counsel can imagine.”

31

INCREASE IN CASES LEADS TO INCONSISTENT RULINGS AND INABILITY TO PREDICT OUTCOMES

• Spaulding v. Wells Fargo Bank, N.A. (4th Cir. Md. Apr. 19, 2013)
• Home Affordable Modification Program (“HAMP”). Passed as part of

Congress’s response to the financial and housing crisis that started in fall of 2008.

• Mortgagors brought breach of contract, negligence, and violation of

Maryland Consumer Protection Act claims when Wells Fargo rejected their application for a mortgage modification under HAMP.

• There is no privity of contract without a Trial Period Plan agreement.
• No private right of action for alleged failure to follow HAMP

guidelines.

• Dismissal of all claims affirmed.

32

OTHER COURTS HOLD TRUE TO ESTABLISHED PRINCIPLES

• ACA Fin. Guar. Corp. v. Goldman, Sachs & Co., (N.Y. App. Div., 1st

Dep't May 14, 2013)

• Claims based on ABACUS CDOs were dismissed as plaintiffs were

found to be unable to plead justifiable reliance as it was “a highly sophisticated commercial entity” that could have verified the information it allegedly relied upon.

• Wells Fargo Bank, NA v. Cherryland Mall L.P., 2013 Mich. App.

LEXIS 651, 5, 2013 WL 1442053 (Mich. Ct. App. Apr. 9, 2013)

• Interesting case – involving a solvency covenant for a single purpose

entity.

• Paragraph 9 of the mortgage provides, in pertinent part: Single

Purpose Entity/Separateness. Mortgagor covenants and agrees as follows: (f) Mortgagor is and will remain solvent and Mortgagor will pay its debts and liabilities (including, as applicable, shared personnel and overhead expenses) from its assets as the same shall become due.

33

GOOD FAITH AND FAIR DEALING

34

WHAT IS GOOD FAITH AND FAIR DEALING?

• Can lenders rely on the terms of a loan agreement when

calling loans or otherwise enforcing their rights.

• How should concepts of good faith and fair dealing impact

your lending decisions? How can borrowers use this to their advantage?

• Given the current economic climate, borrowers are alleging

breach of good faith and fair dealing by lenders.

35

GOOD FAITH QUIZ

Gilmore v Ute City Mortgage Co, 660 F Supp 437, 442 (D Colo 1986)

• Finding that where lender rescinded commitment to lend and

commitment was contingent upon lending committee approval, duty of good faith would not be met, and bank would have breached contract, if lender failed to submit commitment to lending committee. KMC Co v Irving Trust Co, 757 F2d 752, 759-60 (6th Cir 1985)

• Finding that even where literal terms of credit agreement allowed bank

control over customer’s receivables and operating credit availability, duty of good faith required bank to provide notice and an opportunity to seek alternative financing before curtailing financing. Continental Cas Co v Fifth/Third Bank, 418 F Supp 2d 964, 973 (ND Ohio 2006)

• “’Mere failure to follow commercially reasonable banking procedures or

to comply with its own policies’ does not per se equal bad faith” and concluding the bank had acted in good faith.

36

BE PREPARED FOR ANYING: SUING LENDERS FOR EMOTIONAL DISTRESS? Claim allowed?

• Lender’s alleged conduct of not providing borrowers with correct loan

information, refusing to modify loan, losing papers and documents, and threatening foreclosure was “not so outrageous” as to support claim for intentional infliction of emotional distress.

• Borrowers’ negligent infliction of emotional distress claim against lender

failed where no physical impact alleged and no exceptions to impact rule applied. Echeverria v. BAC Home Loans Servicing, LP, Case No. 6:10-cv-01933-JA-DAB (11th Cir. July 18, 2013) (affirming dismissal of plaintiff’s claim)

37

ACTIONS UNDER THE LOAN AGREEMENTS

Will a strict enforcement of terms and conditions form the basis for a breach of the implied duty of good faith and fair dealing?

• Bank of America, N.A. v. Shelbourne Development Group, Inc., (N.D. Ill. Mar. 3, 2011)

(“As the Seventh Circuit explains, Illinois law holds that parties to a contract are entitled to enforce the terms to the letter and an implied covenant of good faith cannot overrule or modify the express terms of a contract”).

• Interpharm, Inc. v. Wells Fargo Bank, N.A. (S.D.N.Y. Mar. 31, 2010) (Lender liability

claims dismissed to the extent that Wells Fargo had a right to threaten to do what it was legally entitled to do under the loan agreements).

• Roswell Capital Partners LLC v. Alternative Constr. Tech., (S.D.N.Y. 2009) (Lender’s

appointing two members to the Board of Directors, ownership of shares through the 2008 Funding were NOT an exercise of control, did not create a fiduciary duty, nor a breach of the duty of good faith and fair dealing as they were merely an exercise of plaintiff’s contractual rights).

• Takeaway: Exercising contract rights to protect an investment should not

be deemed bad faith.

38

LENDERS MUST BE MINDFUL OF THE DUTY OF GOOD FAITH AND FAIR DEALING WHEN INTERACTING WITH BORROWERS

• A breach of this duty may be alleged as a defense or claim

in a later litigation

• Lenders should try to avoid:
• Deviating from an established course of dealing with

borrowers.

• Acting precipitously and, without warning, exercising rights

under loan documents or in accordance with depository set

• ff language.
• Exerting undue control over borrowers.
• Demonstrating an unwillingness to negotiate or to engage in

meaningful workout discussions with borrowers.

39

CONTROL BY LENDERS

40

THE DANGER OF EXERCISING CONTROL

• Do lenders expose themselves to liability to borrowers and potentially

third parties if they exert undue control over borrowers?

• OVER THE LINE? Can lenders require borrowers to obtain permission

before making major changes in their business operations where such changes might affect the lenders’ security?

• OVER THE LINE? Can lenders dictate changes in borrowers’ business

plans, sales and credit policies, and daily business practices?

• [A] lender may offer advice and use the leverage which its position

gives it vis-a-vis the debtor, without being viewed as controlling the debtor, so long as the debtor continues to operate, and the management of the debtor continues to make its own business decisions.”

• Lender Liability: Law, Practice and Prevention, § 5.7-8

41

DEFINING CONTROL

• A determination of whether a lender has exerted undue control over a

borrower typically is factual in nature, but a number of practices could raise red flags:

• Threatening the acceleration of a loan to influence borrowers’

decisions.

• Instituting mandatory financial plans on borrowers
• Deciding which of the borrowers’ creditors should be paid and in what
• rder.
• Making personnel decisions for borrowers.
• Advice relating to marketing, equipment purchasing, products,

location or expansion.

• A bank’s right to receive regular financial reports and monitor [the

debtor’s] performance, and even to limit salaries paid . . . , was not at all unusual in the context of a commercial loan and [did] not create a fiduciary relationship.

• Shawmut Bank, N.A. v. Wayman, 34 Mass. App. Ct. 20, 606 N.E.2d

925, 928 (Mass. App. Ct. 1993)

42

ENDING THE RELATIONSHIP WITHOUT CONTROLLING IT

• FAMM Steel Inc. v. Sovereign Bank, 571 F.3d 93 (1st Cir. 2009)
• Court dismissed the borrower’s claims that Sovereign had a fiduciary relationship

with them since there was no evidence that despite Sovereign’s insistence that the consultants be hired, that they were acting under the bank’s direction.

• The court noted that the lender’s actions took place while FAMM was in default,

and that the majority of the allegations were based on the lender’s failure to take actions that were not required under the loan agreements

• F.D.I.C. v. LeBlanc, 85 F.3d 815, 822 (1st Cir. 1996)
• Under Massachusetts, law no breach of the implied covenant in a bank’s hard-

nosed dealings with a borrower where it was undisputed that the bank did not take any of the adverse actions before the borrower defaulted.

• Plaintiffs raised new arguments on appeal based on Illinois law, under which they

asserted that the implied covenant requires a bank to exercise its discretion reasonably,

• BA Mortgage & Int’l Realty Corp. v. Am. Nat’l Bank & Trust Co. of Chi., 706 F. Supp.

1364, 1373 (N.D. Ill. 1989)

43

DEFAULTS, WAIVERS, & AMENDMENTS

• Identify all defaults you discover, know and/or suspect
• Clearly indicate which defaults are being waived by section

and title

• Communicate with in-house counsel and do not spare the

details

• Waiver of defaults
• Make sure all amendments are defined and agreed to in

writing

44

SO, BEFORE JUMPING INTO THE DEEP END …

Conduct proper due diligence. Know your warranties, representations, and covenants. Check the release language. Are there intercreditor agreements and, if not, should there have been? Assignment documentation. Collateral viability and exit strategy. Boot collateral. Guaranties and other avenues of recourse.

45

CONTROL AS “UNCLEAN HANDS”?

• Domus, Inc. v. Davis-Giovinazzo Constr. Co., (E.D. Pa. Aug. 22,

2011)

• Creditors claiming priority to certain account receivables obtained

in an arbitration action alleged that the secured creditor, Susquehanna had overstepped its authority by filing AAA Arbitration proceedings on behalf of the borrower.

• However, the Security Agreement explicitly allowed the bank to

step into the borrower’s shoes and collect amounts due to the borrower.

• Other creditors argued that Susquehanna had unclean hands due

to its failure to comply with the minority business enterprise certification requirements.

• The court however, rejected the argument as it found the bank

neither knowingly or intentionally failed to comply, and regardless, there was no evidence that it thus harmed the other creditors.

46

TOO MUCH MEDDLING OR GOOD BUSINESS SENSE?

In the days prior to the closing of the June Loan, Key attempted to make three changes to Velocity’s contract with Sanden without Velocity’s knowledge. First, Key proposed and Sanden agreed that the third progress payment would be paid when the press was delivered to Velocity, rather than the date it was

• perating on Sanden’s floor as provided in the

Velocity-Sanden contract. Second, Key obtained a first position security interest in the initial $250,000 of parts and materials purchased to construct Velocity’s press, even though Velocity’s contract with Sanden gave Sanden the first position security interest in that material. Third, Key informed Sanden that it would have to

• btain a letter of credit to secure the second progress

payment before that payment would be advanced. Elkins testified that he would not have signed the June Loan documents had he been aware of these changes. At trial, the U.S. District Court for the District of Utah found Key liable on fraudulent inducement, violation of the implied covenant of good faith and breach of fiduciary duty theories. The 10th Circuit rejected the breach of fiduciary duty theory but affirmed on fraudulent inducement and breach of the covenant of good faith grounds, citing Key’s communications with Sanden without Velocity’s knowledge and the fact that the changes Key negotiated were inconsistent with the

• riginal purpose of the loan agreement.

Velocity Press v. Key Bank, N.A., (10th Cir. 2014)

47

DEALING WITH COLLATERAL

48

COLLATERAL BASICS: PERFECTION: RECORD, MONITOR, & AUDIT YOUR SECURITY INTEREST, LIEN & COLLATERAL

• You cannot over-perfect
• File financing statements in each jurisdiction

where an issue of filing may arise

• Conduct reviews of UCC filing statements

concerning your debtor

• Inspect your collateral, and be vigilant about

missing items

• Knowledge of missing items + inaction ?=?

waiver

49

IS POSSESSION REALLY 9/10’S OF THE LAW?

• Get physical.
• Beware of unique collateral classes.
• If you can physically move the collateral, others can

too.

• In certain foreign jurisdictions, the first creditor to

take possession of collateral has priority rights to that collateral.

• Consider bailees and bailors.
• Keep it in the United States if possible.

50

LIABILITIES IN DEALING WITH COLLATERAL

Environmental Example

• Ultimate Industries Site - October 2012 – Agreement by the lender to pay for

10% of the costs incurred by the EPA in removing hazardous waste drums at a facility that had been owned by the defunct borrower.

• State of Ohio v. Estate of Roberts (Ohio 2010) – Court of Appeals found that

there were issues of fact as to whether the bank failed to properly dispose of the drums and allowed useful assets to deteriorate into hazardous waste

• After the bank had taken possession of the property, it in fall of 2004, the bank

sold some of the equipment, and 2 of the 35 drums with usable chemicals, paint, and stain.

• Bank bought the property at the foreclosure sale but moved to vacate the sale

due to “newly discovered evidence.”

• The hole left by the sale of one piece of equipment led to a defect and

subsequent leak, resulting in black mold.

51

INDIRECT LIABILITY

• Consumer Financial Protection Bureau Bulletin 2013-02, dated March 21,

2013

• In auto financing, auto dealers often facilitate indirect financing by a third party

(who does not actually meet the consumer) by providing basic information regarding the applicant and in turn receiving offers to provide financing at a certain rate.

• Some indirect auto lenders allow dealers to mark up the interest rate above the

indirect auto lender’s rate and the difference is typically called the “reserve,” which becomes one way the auto dealer is compensated.

• The Bulletin warns that an indirect auto lender is a “creditor” under the Equal

Credit Opportunity Act, which prohibits discrimination based on race, national

• rigin, and other prohibited bases, and thus could be liable under the Act.
• Creditor includes “any assignee of an original creditor who participates in the

decision to extend, renew, or continue credit.”

• Specifically, the Bulletin noted that the policy to allow auto dealer to mark up

lender-established rate and compensate dealers from the markups created incentives, which, coupled with the discretion permitted, that posed a significant risk of resulting disparities in the pricing of auto loans.

52

INDIRECT LIABILITY - SUCCESSORS

Drakopoulos v. U.S. Bank National Association (SJC Mass. July 12, 2013)

• Found that a bank, not the original lender but holder of a

residential mortgage through assignment and its servicer, was subject to claims seeking damages and rescission for violations of the Predatory Home Loan Practices Act, the Massachusetts Consumer Protection Act, and the Borrower’s Interest Act.

• Court determined that the fact that the bank was the assignee and

not the original lender did not shield the bank from liability.

• The court absolved the servicer for claims arising from the actions
• f the original lender, as it was not an assignee

53

OVERREACHING OR JUST BUSINESS?

• Credit Suisse v. Official Committee of Unsecured Creditors (In re

Yellowstone Mountain Club), Case No. 08-61570-11, Adv. No. 09- 00014, 2009 Bankr. LEXIS 2047 (D. Mo. May 13, 2009)

• Facts:
• CS creates loan for property developers that allows them to take most of

the money in the form of a dividend. CS then sells off most of the loan to participants, externalizing all of the risk while keeping origination fees for itself.

• CS markets loan to Yellowstone, a high end property development with

cash flow problems, and after aggressive pursuit, an agreement is reached to loan $375M secured by the property.

• Problem: Initial valuation of the property at “market value” was $420M,

making loan-to-value ratio too high for CS.

• Solution: CS invents the “Total Net Value” valuation method, applies a

discount rate of zero to Yellowstone’s cash-flows, and originates loan through an offshore subsidiary to avoid compliance with Financial Institutions Reform Act of 1989 methodology.

• CS collects $7.5M in fees and sells off all of the loan to third party investors

54

WHAT ELSE ARE THOSE COUNTERPARTIES UP TO?

• Attack on jury waivers
• Reliance on state court claims to avoid the bounds of the

credit agreement (interference with business relations; fraudulent inducement; duress; forum shopping; deceptive business practices; frustration of performance; etc.)

• Impairing collateral
• Resorting to bankruptcy filings
• Multiple changes in counsel
• Rushing to the courthouse to file first
• Attacking legal fees incurred by the lender and other loan

administration expenses

55

SOMETHING WE KNOW BUT DON’T TALK ABOUT IN PUBLIC

• E-mails are forever and are discoverable.
• E-mails are evidence.
• Be aware of course of conduct arguments.
• Often, e-mails are the best/worst evidence.
• E-mails never tell the full story, leaving much room for

interpretation.

• E-mails should only be used to confirm oral statements from

borrowers.

56

SIDEBAR: CAN E-MAILS MODIFY CONTRACTS?

• Stevens v. Publicis, S.A., 2008 NY Slip Op 2880, 3, 50 A.D.3d 253,

255-56, 854 N.Y.S.2d 690 (1st Dep't 2008)

• Found that e-mails from plaintiff to defendant agreeing to modification of

the contract were found to “constitute ‘signed writings’ within the meaning

• f the statute of frauds” and thus the contract, as modified was

enforceable

• Tomer v. Hollister Assocs., Massachusetts 2006
• Contract altered despite existence of a no-oral-modification clause

because the “Court considers e-mail communications, in which the sender and recipient are clearly identified, to constitute writings.”

• Lesson Learned: If you wouldn’t send it to your counterparty in hard-

copy form, don’t send it by e-mail.

• Treat e-mail and hard paper as the same thing.

57

FORBEARANCE AGREEMENTS

• Be careful not to create enforceable obligations to extend credit or

renew the loan. Do not make promises inconsistent with the terms of the agreement, or statements that may be construed as such.

• Acknowledgements concerning defaults and the amount of debt.
• Lock down the borrower. Use specific integration clause stating that

borrower has not relied on any promises outside of agreement. If orally negotiating, never agree to anything and state that internal approval is still required.

• Releases. Have borrower sign a broad release that specifically

precludes promissory fraud, misrepresentation, and language that could be construed as a covenant not to sue.

58

• Forbearance Period – stops the legal fees, the disputes, and cools tempers
• Send follow-up emails after conversations stating that nothing is agreed to

without internal approval.

• Give all agreements to borrower in advance of closing to ensure time for
• review. Have borrower sign specifying that it has:
• Read and understands agreement,
• Consulted with counsel,
• Not relied on any promises other than in the agreement, and
• Has made their own investigations and that the failure to do so is no

defense to enforcement of agreement.

FORBEARANCE CONTINUED

59 59

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