Banking & Finance Law Report

Commercial Loans: Equity Cure Provisions

Background

In loan agreements, lenders customarily require the borrower to make various financial covenants­ whereby the borrower promises to achieve certain financial metrics, often requiring the borrower to stay above or below certain thresholds based on its operations. Since financial covenants are based on past financial performance, breaches of financial covenants typically cannot be cured in the absence of some sort of cure provision. This is why the concept of an equity cure provision is an attractive option for borrowers. An equity cure provision allows a borrower’s shareholders to inject additional equity into the borrower in order to cure an existing breach of a financial covenant, so that the breach does not trigger an event of default. The issuance of additional equity creates a cash infusion enabling the borrower to increase its cash flow or EBITDA or reduce debt to meet the relevant financial covenants, such as a leverage ratio, operating cash flow ratio, or debt service coverage ratio. Essentially, an equity cure provision allows the borrower to go back in time to improve its financial metrics so that it is deemed to have been in compliance with the applicable covenant as of the measurement date. More and more, borrowers or their financial sponsors will request and lenders, in some cases, agree to the inclusion of an equity cure provision in the credit agreement. The borrower’s ability to utilize an equity cure to stave off a potential default is not unlimited, however. Typically, lenders will impose certain limitations on a borrower’s ability to use these provisions. When negotiating equity cure provisions, borrowers and lenders must consider a variety of factors to best serve their interests.

Frequency of Equity Cures

For borrowers, one of the most important aspects of an equity cure provision is how often the borrower can use the equity cure. Lenders prefer to limit the number of cures allowed throughout the term of the agreement and will often restrict the number of uses of the cure in consecutive periods. For example, a lender may limit a borrower’s exercise of an equity cure provision to no more than twice in one year and no more than three times over the term of the agreement. Such limitations enable the lender to prevent a scenario where the borrower could potentially use the equity cure as a cover-up for its continuing financial struggles. When negotiating an equity cure provision, borrowers should push to minimize the restrictions on their ability to use the cure, which will decrease the likelihood of defaulting on a financial covenant. Continue Reading

Temper Your Expectations on Cannabis Banking Reform: foreseeable pitfalls of the SAFE Banking Act

On September 25, 2019, the Secure and Fair Enforcement (SAFE) Banking Act of 2019 passed the U.S. House of Representatives by an impressive margin of 321 to 103. The U.S. Senate—once seen as a gauntlet of insurmountable obstacles to cannabis banking reform—has also seen some meaningful progress.

Senator Mike Crapo (R., Idaho), the influential chair of the Senate Banking Committee overseeing the SAFE Act in the Senate, previously expressed no interest in allowing the SAFE Act a vote out of committee that would enable the full Senate to vote on its passage. But now, Mr. Crapo has expressed interest in voting on the SAFE Act before year’s end. And Senate Majority Leader, Mitch McConnell, whose public comments on marijuana have been negative, recently met with marijuana industry executives in a move some see as potentially signaling McConnell’s eventual support for cannabis banking reform.

Following the Act’s passage in the House, and with an improving outlook in the Senate, financial institutions have been preparing for increased involvement with cannabis-related businesses. However, while many believe the SAFE Act is closer than ever to solving the country’s cannabis banking woes, we believe that the Act’s passage alone may not provide the cannabis industry with relief; at least not quickly. Continue Reading

OHIO’S NEW NOTARY LAW REQUIRES IMMEDIATE ATTENTION

Ohio is a relatively new adopter (September 20, 2019) of laws permitting electronic on line notarization. These new laws generated a great deal of excitement when they went into effect on September 20, 2019, creating new licensing, education and requirements for “electronic notarial acts”. There are however, several relatively mundane aspects of the law that will affect the daily work of bankers, lawyers, the real estate industry and other businesses such as wealth management where signature attestation may be required.

Ohio Revised Code Section 147.542 addresses the form and content of notarial certificates. It requires in part that for both an acknowledgment and a jurat[1], the notarial certificate shall indicate the type of notarization being administered. Moreover, if the certificate is incorrect, the notary must provide a correct certificate at no charge.

Under the new law, an acknowledgment certificate must clearly state that no oath or affirmation was administered and a jurat certificate must state that no oath or affirmation was administered. The counterpart to those requirements is that a notary cannot use an acknowledgment certificate when an oath or affirmation was administered and a jurat certificate cannot be used if no oath or affirmation was administered. Section 147.011(A) also states that the failure to administer an oath when required shall result in the notary losing his or her commission for three years. Continue Reading

The Bank Industry’s Cannabis Problem

The banking industry has a cannabis problem—it cannot bank cannabis related businesses.

Despite the fact that over 35 states have legalized medical cannabis in some form and more than 10 others have recreational cannabis laws, the mainstream banking industry has been largely unable to provide services to lawful cannabis companies. That is because federal law still views cannabis as an illegal Schedule I drug subject to the Controlled Substances Act—on par with drugs such as heroin.

This complex federal overlay has prevented the banking industry from being able to service not only cannabis companies, but also non-plant touching ancillary businesses working with cannabis companies. Consequently, banks are forced to sit on the sidelines while cannabis companies try to figure out what to do with their growing cash reserves. Continue Reading

Ohio Legislature reaffirms approval of electronic transacting, but lenders beware of e-note enforceability

Earlier this month, SB 220, the Ohio law that amended Ohio’s version of the Uniform Electronic Transaction Act (UETA) became effective. The amendment to the UETA confirms that records, contracts, and signatures that are secured through blockchain technology, i.e., a technology that creates an unalterable electronic ledger, will be considered an electronic recording holding the same legal legitimacy as its printed counterpart.[1] As a result, records, contracts, and electronic signatures secured through blockchain technology cannot be denied legal effect or enforceability solely because it is in electronic form.[2]

By expressly stating that the UETA applies to electronic records and signatures secured through blockchain technology, the Ohio legislature has reaffirmed that the law is adapting to modern trends of efficient Internet-based transacting. This change not only reduces paper waste, but decreases burdens associated with paper transacting, such as printing, scanning, mailing, and filing.

Nevertheless, lenders should be particularly cautions when adopting electronic records transactional systems. The UETA does not apply to certain transactions governed by Ohio’s version of the Uniform Commercial Code (UCC), including the issuance of promissory notes. The UETA does however apply to “transferrable records,” or any electronic record that would be considered a note under the UCC if the record were in paper form (“e-note”).[3] Nevertheless, a lender must meet rigorous requirements in order to ensure that it will be able to enforce an e-note.

In order to ensure compliance with Ohio legal requirements for contracting and executing e-notes, certain protocols should be adopted to establish authenticity of electronic signatures, preserve the integrity of the document, mitigate risks of repudiation, and establish the lender’s control over the original executed document. In order to reliably create, maintain and transfer control of an e-note, the lender should adopt an electronic-based system, approved by all parties in the transaction, that meets the following requirements:

  1. The lender, or its designated custodian, shall always retain a single authoritative copy of the e-note. The authoritative copy should be unique, identifiable, and unalterable
  2. The authoritative copy must identify the person asserting control of the e-note. This person should either be (a) the person to which the transferable record was issued, or (b) the person to which the e-note was most recently transferred; and
  3. The authoritative copy is communicated to and maintained by the person asserting control or its designated custodian.
  4. Any copies to the authoritative copy are made with consent of the person asserting control, shall be readily identifiable as the copy, and shall state whether the copy is authorized or unauthorized.

The adoption of SB 220 provides further evidence that electronic-based transaction is not only a legitimate practice in Ohio, but may soon become the standard. However, in order to ensure that a lender will be able to enforce promissory notes regardless of the document’s electronic format, the lender must be able to provide evidence that it has complied with the above requirements.

[1] R.C. § 1306.01(G), (H).

[2] See R.C. § 1306.06(A), (B).

[3] See R.C. § 1306.15(A)(1).

New Statute Makes It Easier for the Small Business Administration to Lend to ESOPs

Every business owner must make a decision regarding what he or she will do with the business. If no family member is able or willing to assume ownership, an increasingly popular succession planning strategy has been to sell the business to an employee stock ownership plan (“ESOP”).  ESOPs are popular in part because of the tax advantages they provide to the selling business owner, the company, and the employees.  Smaller businesses who have considered adopting an ESOP, however, sometimes have faced challenges securing financing on acceptable terms.  That could occur if the business’s assets (both tangible and intangible) did not provide sufficient collateral.  Further, the Small Business Administration (the “SBA”) 7(a) Loan Guaranty Program often was of little help because Section 7(a) of the Small Business Act did not reflect modern ESOP loan practices.

The SBA hurdle just became easier to overcome with the Main Street Employee Ownership Act (the “Act”), which was signed into law as part of the 2019 National Defense Authorization Act. The Act should improve SBA lending to ESOPs in the following ways: Continue Reading

Why You May Want To Do Business Under Ohio’s 2018 Banking Law

Let’s say your client is a bank based outside of Ohio, and suppose further your client wants to set up a banking business in Ohio.

Most of the time a merger transaction will result in a non-Ohio bank doing business in Ohio through an out-of-state franchise of course. But in light of changes to Ohio banking law that took effect on January 1, 2018, in an appropriate business situation, an Ohio bank might be a good way for a non-Ohio banking organization to do business in Ohio.  Consider:

  • The directors of the Ohio bank now have the protections of general corporate directors such as the business judgment rule and not the more limited protections previously afforded bank directors. (Ohio Revised Code §1105.11)
  • Director requirements for an Ohio bank have been loosened. Now there is no requirement that Ohio bank directors live in Ohio in order to serve on the bank board. (Ohio Revised Code §1105.02)
  • Directors, officers and employees of an Ohio bank are not individually liable for bank law violations unless the person knowingly violated the law. (Ohio Revised Code §1105.11)
  • The new law modernizes communications requirements by providing that board meetings can be held through any communications equipment if all of the participants can communicate with each other. (Ohio Revised Code §1105.08)
  • The new law simplifies corporate governance procedures for the Ohio bank: It is to be created, organized, and governed, its business is to be conducted, and its directors are to be chosen, in the same manner as is provided under the general corporation law. (Ohio Revised Code §1113.01)
  • A shelf bank charter is authorized for various purposes. (Ohio Revised Code §1115.24)
  • The new Ohio law protects the books and records of a wholly-owned banking subsidiary from inspection by the shareholders of its bank holding company. To do so, the new law effectively overrules a 4-3 decision of the Ohio Supreme Court (Danzinger v. Luse, 103 Ohio St. 3d 337, 2004-Ohio-5227 (2004)) which held the shareholders of a bank holding company had a common law right to access the corporate books and records of its wholly-owned banking subsidiary on a piercing of the corporate veil theory (even though the corporate formalities had been observed) when the two corporations had a common business purpose, a common board of directors and common set of officers. Under Ohio law, a statute will not abrogate common law unless the statute expressly so provides and the new Ohio banking code expressly abrogates any common law right of inspection held by the shareholders of a banking holding company to inspection the books and records of a wholly-owned bank subsidiary. (Ohio Revised Code §1113.17(D))
  • An Ohio state bank can exercise all of the powers of any other bank competing in Ohio such as, for example, all of the powers of a national bank or federal savings association. (Ohio Revised Code §1109.02)
  • None of Ohio bank’s regulatory materials could be introduced at a civil proceeding for any purpose. (Ohio Revised Code §1181.25)
  • A new litigation privilege for self-assessment applies to Ohio banks. (Ohio Revised Code §1121.19)
  • No person other than bank regulators could assert a claim against the Ohio bank based on a regulatory provision of the state banking code. (Ohio Revised Code §1101.15)
  • An Ohio bank under most conditions can send electronic deposit and savings account statements and use electronic deposit agreements. (Ohio Revised Code §1109.05(c))
  • Now an Ohio bank’s provision of safes, vaults, safe deposit boxes, night depositories, and other secure receptacles for the use of its customers does not create a bailment relationship. (Ohio Revised Code §1109.08(c))
  • Now an Ohio bank may rely on any information, agreements, documents, and signatures provided by its customers as being true, accurate, complete, and authentic and that the persons signing have full capacity and complete authority to execute and deliver any such documents if the bank is acting in good faith, which means in this context honesty in fact and the observance of reasonable commercial standards of fair dealing. (Ohio Revised Code §1109.04(a))
  • Now the bank-customer relationship as a matter of law does not create a fiduciary or other special relationship. (Ohio Revised Code §1109.131)
  • Ohio’s bank record retention statue now expressly incorporates federal record retention requirements and under Ohio law, any action by or against a bank based on, or the determination of which would depend on, the contents of records for which a period of retention or preservation is set forth in the statute must be brought within the time for which the record must be retained or preserved. (Ohio Revised Code §1109.69)
  • Now Ohio law protects the terms “bank” “banking,” “savings,” “loan,” “savings and loan,” “building and loan,” or “thrift” in order to prevent misleading use of the terms by bank competitors. There is a new civil money penalty of up to $10,000 a day for violations. (Ohio Revised Code §§1101.15 and 1101.99)

Continue Reading

FDCPA – Sixth Circuit Requires Real Damages

 

When Congress passed the Fair Debt Collection Practices Act it created a federal statutory right to damages for consumers who suffer abusive debt collection practices. One of those practices, the required disclosures in a communication with the consumer, was the subject of a recent decision by the Sixth Circuit Court of Appeals in Cincinnati.

The decision will give some comfort to consumer lenders and their lawyers in light of the judicial limitation it imposed on Congress when it creates federal statutory causes of action.  Here the decision was in favor of the purported debt collector, the lender’s lawyer.

The FDCPA is frequently the subject of litigation. The possibility of damages for a consumer has prompted federal litigation the way honey draws bees. Here the honey was a claim against the lender’s lawyer and his law firm.

The facts in this case were not in question. This summary is drawn from a very well-written opinion by Judge Jeffrey Sutton of the Court of Appeals available here.

In 2010, James and Patricia Haggy defaulted on a mobile home loan. When foreclosure proceedings were initiated, Mrs. Hagy called the law firm representing the foreclosing lender.  The foreclosure was settled when the Hagy’s conveyed a deed in lieu of foreclosure and the lender agreed not to sue the Hagy’s for any deficiency. Continue Reading

Practice Pointer for Creditor’s Rights Counsel: Draft Complaints With the New Warrant of Attorney Bench Card in Mind

The Ohio Judicial Conference has issued a bench card, a copy of which is attached, that gives Ohio’s Common Pleas Court judges a checklist they may use when presented with an order seeking judgment on a note containing a warrant of attorney. While the bench card is merely advisory, it represents a victory for those who want to limit the use of warrants of attorney to confess judgment to monetary defaults only, and appears to be an end-run around the legislative process.

The checklist contains the following six items (quoted verbatim):

  • Original Note produced and Complaint has copy of note attached as exhibit?
  • Complaint incudes statement regarding last known address of the defendant either in averment or within caption?
  • At least one maker resides in jurisdiction or Note executed in jurisdiction where Complaint is filed?
  • Note includes “warrant of attorney” with statutory language above or below signature?
  • The Note does not arise from a consumer transaction?
  • Default consists of nonpayment on note, rather than default of other provision unrelated to payment”.

There is debate on both sides of the debtor/ creditor bar about whether a warrant of attorney may be used on confess judgment for a non-monetary default, also known as a covenant default. By issuing this bench card, the Common Pleas Court judges in Ohio’s 88 counties have (albeit non-binding) guidance that warrants of attorney may only be used for a monetary default, not in a covenant default situation.

The advice to creditor’s counsel facing a covenant default is to (i) accelerate the debt; (ii) sue after passage of the cure period; and (iii) plead that the debt was accelerated and due in full.

“How did we get to this bench card?” you might ask. As reported last year in this blog (HB 67 Warrants of Attorney dated February 24, 2017), a bill limiting the use of warrants of attorney to situations involving “the settlement of a dispute” was introduced into the 132nd General Assembly on February 16, 2017 by Representative Ron Young (R- Leroy Township).  Vigorous debate ensured, and, in the interest of full discourse, the author objected to the bill.  A later amendment to H.B. 67 replaced the “settlement of a dispute” language with a limitation on the use of warrants of attorney to “monetary defaults”, a phrase that was not defined in H.B. 67.  The amended version of H.B. 67 also faced strenuous opposition.

The bench card was issued last fall without notice or warning, and in October, 2017, Rep. Young endorsed the bench card as set forth in the attached press release. The press release reflects the largely anecdotal stories that were offered by proponents of the bill regarding the horrors purportedly committed by commercial lenders, who were allegedly forcing borrowers to sign “away their business, their homes, their checking accounts, and their personal property, without notice and without the right to defend themselves even in cases where the lender was at fault.”

There are two problems with the proponents’ allegations: first, they were completely unsupported by authority.  If lenders were filing baseless lawsuits, there would be public record documents available.  The author requested such documentation, and received nothing.  There might also be Rule 11 and other sanctions motions brought against creditor’s rights counsel filing frivolous and baseless suits.

Second, the proponents of limiting the use of warrants of attorney ignore the remedy of a motion for relief from judgment under Ohio Civil Rule 60(B). As creditor’s rights lawyers will attest, motions for relief from judgment are freely granted when filed after a judgment by confession is rendered.

The bottom line is this: the Ohio Judicial Conference has issued its bench card, clearly to the joy of opponents of warrants of attorney.  Creditor’s rights counsel are advised to draft their complaints to make clear that there has been a monetary default, even if it arises from an acceleration based on a covenant default.

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