As banks fail and pro formas are revised again, business borrowers eager to restructure their debt often find that their loans are no longer held by the originating or "relationship" banker. Instead, a new lender holds their loans: either the FDIC as receiver for the failed bank, or a joint venture partnership between the FDIC and a private equity firm.
We often represent the new lenders involved in these restructurings. Drawing on our experience with many successful commercial loan restructurings and many more attempted ones, here are 10 things borrowers and guarantors should keep in mind when approaching their new lender. Some are common to any restructuring, while others are unique to loans formerly held by a failed bank.
1. Be realistic: Restructuring proposals are often just too sanguine, too ambitious or both. Do not ask for too much. For example, a long-defaulting borrower proposed consolidating two notes into one, changing the interest rate to 5%, extending maturity for five years, and paying principal and interest on a 40-year amortization schedule — all with no up-front fees, no new collateral, and no other security. We relayed this proposal to the new lender shortly after breakfast; they rejected it before lunch. Unrealistic initial proposals will also lead to skepticism on future proposals.
2. Button up your financial statements: At the very least, expect to provide the new lender with current, sworn financial statements from each borrower and guarantor. Financials that vary materially from those provided at loan origination are a red flag and should be proactively explained.
3. Prepare for fees: A modification fee of at least 2% to 5% of the loan's outstanding principal balance is typical of most commercial loan agreements, as is the requirement to pay for the new lender’s restructuring costs, including new appraisals, title endorsements and legal fees.
4. Anticipate higher Interest and accelerated amortization: Brace for annual interest in the low double digits, as well as an accelerated five- to 10-year amortization schedule.
5. Prepare for cross-default provisions: Cross-default provisions are typical in commercial multi-loan restructurings. For example, with the failure of several banks, separate loans with unrelated original lenders may now be consolidated with one single lender or a group of related lenders. That scenario frequently prompts cross-collateralization as a restructuring component.
An acquaintance recently had the experience of adding language to a restructured loan that actually made default on an unrelated loan held by a completely separate lender an event of default on the restructured loan. So this is tricky territory.
6. Expect the lender to freshen up loan documents: Even the most assiduous lenders are not immune to problematic or missing loan documents. Therefore, do not be surprised if your new lender insists on curing actual and suspected problems as part of the restructuring process. Some new lenders also may want to freshen up the language in the loan documents to comply with qualification criteria for securitization or other secondary financing.
7. Argue convincingly for principal reductions: Principal reductions are available, but they are rare and should not be expected. To secure one, business borrowers must convincingly demonstrate the following:
• Why they can’t pay down the principal from other sources
• How the current principal amount, combined with other terms proposed by the new lender, will result in yet another default
• Why collateral value has declined, and additional collateral is not available.
Keep in mind that requests for a reduction in principal without new cash or new collateral frequently render a new lender more wary of future performance, thus making them even more reluctant to spend time and resources on restructuring.
8. Consider waiving lender liability: Given the recently increased volume of dubious lender-liability lawsuits being filed, a new lender will look favorably at a borrower’s offer to waive lender-liability claims. Astute borrowers recognize that most lender-liability claims are barred anyway by the D’Oench, Duhme doctrine and other federal and state laws, so they do not resist granting the waiver as an assurance to the new lender.
9. Offer cash and collateral: The best-situated borrowers and guarantors come to the table with cash. But what is remarkable is the resourcefulness and ingenuity of borrowers we have seen who propose a payoff at or close to) the full principal and regular interest balance of their loan. Borrowers are far more successful negotiating away accrued default interest than expecting a principal reduction. New lenders take these proposals very seriously, and they often attract concessions in other areas. In addition, lenders welcome new and unencumbered collateral. Commercial borrowers who are equity rich but cash poor can use new collateral to enhance the appeal of an otherwise tenuous restructuring proposal.
10. Remember the lender's acquisition cost: A common refrain among business borrowers to a new joint-venture lender is, "You should accept my proposal because I know how cheaply you bought my loan." That argument is just not compelling, as the purchase price is only part of the lender's cost. Reported pricing obviously does not take into account the high overhead costs required to underwrite and service troubled loans from failed banks, nor does it include costs like paying protective advances or hiring professionals. It is no secret that when the numbers are blended together and reported on a macro basis, it looks like some new lenders buy loans for just "cents on the dollar."
In reality, however, they use highly complex formulae to underwrite portfolio acquisitions, and return-on-investment expectations vary widely from loan to loan. When analyzing a proposed restructuring, new lenders review and value each loan individually. Adding in the acquisition costs and related burdens, the true prices of these loans are not as modest as they might seem. Adept borrowers will remember that when composing a restructuring proposal and discussing it with a new lender.
While restructuring commercial loans from failed bank receiverships is not an easy task, it is possible to avoid delays. Borrowers and guarantors who keep these recommendations in mind will have better odds for more rapid success.
Joshua Glazov is the author of bankfailureblog.com and serves as a principal in the litigation & dispute resolution group at Chicago-based law firm Much Shelist. He can be reached at (312) 521-2659 or [email protected].