Category: Loan workouts

Should you use a tender process to find your next bank?

On By Geoff GreenIn Finance, Loan workouts, Safe Harbour, TurnaroundsLeave a comment

To tender, or not?

A business borrower puts their banking “out to tender” by delivering an information pack to multiple banks at the same time.  If all runs to plan, they receive multiple finance offers, and select the offer that best suits their needs.

A tender process can deliver a great outcome – but there’s the risk that it doesn’t. 

What happens if you don’t get any offers? 

A failed tender doesn’t stop a borrower from trying again – but my experience is that it becomes harder to obtain finance after a failed tender process.  That’s why my advice is to consider each situation on its merits. 

Are you “hot”?

The starting point in assessing whether or not to run a tender process is to assemble the information that you will need to provide to lenders:

  1. A clear understanding of the debt size and structure that you want.
  2. Historical financials that either reflect a stable three-year period of profitability, or demonstrate a clear trajectory to strong and increasing profits.
  3. Year-to-date management accounts which confirm the direction shown in the annual accounts.
  4. “Three-way” projections – integrated projections which set out projected cashflow, profit and loss and balance sheet.
  5. Tax office lodgements up to date, with no unaddressed arrears.
  6. Capacity to offer security. Obviously, real estate security is well-regarded, but it is not essential.

The next stage is to assess whether multiple lenders are likely to be interested in the deal.

Lenders will have clear boundaries around the types of deals they can do, and won’t do, usually defined by reference to financial ratios such as the Loan to Valuation ratio and the Interest Cover ratio (their “risk appetite”).

Your debt adviser should be able to tell you about the financial ratios that are critical for your structure and industry, and tell you which lenders are likely to be interested in your deal.

If multiple lenders will be interested, then a tender is probably the way to go.  

What if you are not?

What’s wrong with putting your banking out to tender, to just “have a crack” and see what response you get?

Bankers have increasing demands on their time, and they are pretty pragmatic about how they use it.

A tender means that they do all of a normal credit assessment work – but risk missing out on the deal altogether.

They may let the opportunity pass if they have better options to pursue – and if it requires extra work because it is on the edge of their risk appetite, they almost certainly do!

Second time lucky?

Of course, you can go back to a banker that passed on a deal the first time round, and ask her or him to re-consider – but they will probably assume that no other lender liked the deal (or why would you be talking to them?) – and that is a tough position to start from.

It is often better to approach a single banker who will be more prepared to invest time if she or he knows that they will be the only one looking at the transaction.  If they pass on the deal, they will provide feedback and a perspective that allows you to tweak your approach to the next lender.

How do you recover from a failed tender?

Tenders fail for a variety of reasons:

  • A history of financial underperformance that needs a careful explanation.
  • Projections that look unrealistic, or slapdash.
  • Risks that haven’t been explained or effectively mitigated.

You need to critically examine the information provided to the lenders.  An experienced debt adviser should be able to identify any issues and help you to understand whether it is fixable.  From there you can assess whether to re-visit the same bankers with better information, or whether you need to approach new bankers with “fresh eyes” and no memory of the original presentation.

 

Broker’s duty extends beyond the terms of the engagement letter

On By Geoff GreenIn Finance, Loan workoutsLeave a comment

Hoho Property Pty Ltd v Bass Finance No 37 Pty Ltd is a very interesting case for those of us doing debt advisory work.

The case was a three-cornered contest: a lender sued a borrower, who cross-claimed against the broker who arranged the finance.

The Court found that the broker’s engagement letter defined its contractual obligation “narrowly.”  The broker’s contractual obligations:

  • Only began after the date on which the loan application had already been submitted, and accepted by the lender.
  • Were limited to assisting the the borrower to obtain the specified loan from the specified lender.
  • Did not require the broker to seek more suitable finance than offered by the lender, or advise whether the loan met the borrower’s requirements.

Notwithstanding those contractual limitations the Court found that the broker had breached its obligation to provide its services with reasonable care and skill.  The Court awarded nominal damages against the broker – it held that the lender had failed to prove its debt because a Dobbs certificate was invalid (it appeared to be issued by a company not identified in the loan documents) – and so did not consider causation and loss caused by the breach.

The judgement includes a very helpful summary:

“SUMMARY

  1. Ms Ly and Mr Ho hail from Vietnam, although they have lived in Australia for many years. While the couple speak English, their solicitor had learned from experience that it was necessary to have legal documents explained to them with a Vietnamese interpreter.
  2. The couple ran a butchery business but decided to venture into property development, buying a development site with approval to construct apartments. Using the services of a mortgage broker, the couple obtained a 12 month loan to complete the purchase of the land. The loan was to be repaid in January 2021.
  3. The Broker was retained to source finance to pay out the loan and to fund construction. The Lender offered to provide finance of $9.62 million, of which a sizeable portion would be used to pay interest and fees. The Broker charged some $200,000 for its services.
  4. Hoho Property was not obliged to repay the existing loan until 28 January 2021. Early repayment did not entitle the borrower to any rebate on interest accruing before that date. However, the Lender was “very keen to get this done pre Xmas”. A completion date of Tuesday, 22 December 2020 was chosen; the plaintiffs’ solicitor was advised of the date on Wednesday, 16 December 2020, when he had been provided with one of the proposed transaction documents, in draft, and subject to change.
  5. The defendants pressed the plaintiffs and their solicitor to execute the documents, at a time where a complete set of the documents was yet to be provided, and in final form. The plaintiffs’ solicitor resisted the suggested urgency, advising the defendants by email that it was impossible to review the documents in these circumstances by the requested deadline, in particular, where “It is also likely that the clients will require an Interpreter”.
  6. The defendants regarding the plaintiffs’ solicitor as engaging in delaying tactics. The defendants sent a series of offensive and threatening emails, suggesting that the plaintiffs faced the risk “of not settling the transaction at all if you delay”. The plaintiffs’ solicitor told the Broker that his clients needed an interpreter. The Broker asked the solicitor to have the clients sign the documents and provide advice later; the plaintiffs’ solicitor refused and warned the Lender that pressuring his clients to sign without independent legal advice was considered duress.
  7. Further unpleasant emails followed from the Lender, telling the plaintiffs’ solicitor not to waste his time sending such emails and to just do his job, failing which there was a risk that completion would not occur. Shortly after these communications, the plaintiffs’ solicitor was provided with a full suite of transaction documents in final form. However, the Lender was not prepared to continue if the plaintiffs continued to use their solicitor.
  8. The Broker told the plaintiffs that, if they wanted to keep their solicitor, the Lender would not advance the loan, “You have no choice.” This ultimatum caused significant distress to the borrowers, who understood that if they did not execute the documents on the date nominated by the Lender, then there would be no loan at all. The Broker arranged new solicitors and assisted the plaintiffs to terminate the retainer of their existing solicitor by drafting the necessary communications. The Broker provided initial instructions to the new solicitors.
  9. The plaintiffs did not help themselves. First, shortly before completion, the plaintiffs, with the assistance of the Broker, advised that their assets were significantly greater than initially disclosed in their application, including by reasons of properties in Vietnam worth $7.5 million. This appears to have been done in order to satisfy the Lender that the plaintiffs were able to fund the costs of construction in excess of the proposed loan amount. Second, and more importantly, Ms Ly gave the Broker inaccurate information as to her solicitor’s prior use of an interpreter for the couple and sent a text message – itself expressed in poor English and at the end of a long day in which she had been rung constantly by the Broker – that she did not need an interpreter.
  10. On the designated day for completion, the plaintiffs met their new solicitors and were provided with legal advice. There was no interpreter; the plaintiffs again said they did not need one. Following completion, the plaintiffs soon went into default.
  11. The Broker’s performance of its contract was in breach of its obligation to provide its services with reasonable care and skill. Where duress involves actual or threatened unlawful conduct, it was not suggested that the Lender’s threats were unlawful, where there was no legal obligation to provide the loan at all. While the Broker’s breach of contract could be considered unlawful for the purposes of duress, it was not the relevant conduct that generated the illegitimate pressure in question.
  12. The plaintiffs did suffer from a special disadvantage affecting their ability to make a judgment as to their own best interests, from a combination of circumstances: lack of experience, lack of English proficiency, an artificial deadline and suggested adverse implications should they fail to accede to the Lender’s demands. Given the Lender’s relative non-involvement with the plaintiffs, it did not have actual or constructive knowledge of the special disadvantage. The Broker had actual knowledge of these circumstances save for the plaintiffs’ lack of English proficiency, where the Broker had constructive knowledge given his more extensive dealings with the couple.
  13. The Broker made unconscientious use of its superior position and engaged in unconscionable conduct but no remedy ought be granted. The plaintiffs sought that the finance documents be declared void, where the unconscionable conduct in question was that of a third party to the contracts, in the absence of procurement by the Lender, or the Lender having actual or constructive notice of the unconscionable conduct. The plaintiffs also sought a declaration that the Broker was not entitled to its fee, where the Broker’s entitlement to the fee arose prior to and independently of the unconscionable conduct. Whilst the Courts have a very wide jurisdiction to grant declaratory relief, it is not so broad.
  14. Notwithstanding all of this, the Lender failed to prove that it was owed any moneys by the plaintiffs, as the Dobbs certificate did not conform with the contract. It was thus unnecessary to resolve the plaintiffs’ claim for compensation from the Broker, which was premised on liability to the Lender. Similarly for the claim against the Broker for damages for breach of contract, no substantive damage was proved and nominal damages are awarded.”

Disclosure of lender-imposed conditions

On By Geoff GreenIn Continuous Disclosure, Loan workouts1 Comment

The 2019 Financial Reporting season has thrown up examples of very specific disclosure of the conditions imposed on listed borrowers by their lenders.

Case 1 – The amount and timing of an equity raise.

Case 2 – A requirement to conduct a ‘strategic review’ of ‘funding options.’

Case 3 – The timing and requirement for an equity raise to meet a balance sheet ratio.

Two-edged sword

Such disclosure is a two-edged sword.

Certainly, potential purchasers of the shares will be very well informed – but at the same time, the disclosure is likely to make it harder for management to achieve a turnaround. Perceived financial fragility may lead key staff to look elsewhere, and will probably make it harder for the businesses to win new business.  In some cases, it will also create liquidity problems if suppliers decide to reduce trade credit limits.*

Why is such disclosure required?

Listed companies have multiple disclosure requirements.  The Listing Rules impose a continuous disclosure regime, with limited exemptions – for example where negotiations are underway, or are confidential to another party.  The Accounting Standards also impose further disclosure requirements.

If disclosure was made to comply with the continuous disclosure regime then arguably it should have been made earlier – when the companies received notice of their lender’s requirements.

Disclosure in the Annual Report suggests that the disclosure was prompted by the auditor’s review of the financial statements – but for an outsider it is difficult to say whether it reflects a belated ‘catch up’ of continuous disclosure, or whether it is intended to ensure compliance with Accounting Standards.

Theoretical arguments about the reasons for the disclosure and whether it is strictly required may not be much help up for companies up against a deadline.  Two of the case studies had audit reports signed on the latest possible date – perhaps they simply ran out of time?

How should directors mitigate harmful disclosure?

Of course it is important that directors ensure that investors are adequately informed – but they should try to avoid do so in a way that makes it harder for the business to achieve a turnaround.

Harmful disclosure can be mitigated – but it becomes so much harder after balance date.

Businesses in turnaround mode should be projecting their compliance with covenants as part of their normal board reporting.  If non-compliance seems likely, then it is important to negotiate with lenders well ahead of any deadline.  Of course, those negotiations are far easier if supported by a well thought-out and comprehensive turnaround plan that will provide comfort that any underlying issues have been identified, and will be addressed.

* That’s also the reason why I won’t identify the companies here.

Continuous Disclosure, Class Action Regulation, and Restructuring

On By Geoff GreenIn Continuous Disclosure, Loan workouts, TurnaroundsLeave a comment

The continuous disclosure regime presents additional challenges for directors trying to turn around a listed company.  The turnaround itself will probably mean that that there is more to keep the market informed about, but there is more to it than that.  A perceived failure to properly disclose may well lead to a class action, adding to the workload of an already busy management team and board, as well as adding to the list of creditors.

Perhaps the most extreme example is that of Surfstitch, where on one analysis the commencement of a class action claim resulted in a majority of directors concluding – incorrectly in the view of the administrator that they appointed – that their company was insolvent. For these reasons, turnaround and restructuring professionals should have a keen interest in the outcome of a recently commenced Australian Law Reform Commission review.

Background

In December 2017, the Attorney-General asked the ALRC to inquire into the regulation of class actions and those who fund them, with a report due by 21 December 2018.

After a series of bilateral consultations with forty-three parties: regulators, funders, lawyers and other industry participants, the ALRC issued a discussion paper (available here) on 31 May 2018.

A ‘standard approach’

The discussion paper identified what it described as a ‘standard approach’ by litigation funders:

Litigation funders and/or plaintiff law firms (or their hired experts) identify a significant drop in the value of securities.  This is analysed to determine whether it is likely that the relevant drop had been occasioned by the late revelation of material information.

Typically, the analysis determines whether or not it is likely that there is a sufficient basis for assuming the existence of contravening conduct during a period prior to the eventual announcement of the material information.  The litigation funders and/or plaintiff law firms then determine the size of the potential loss that may have been occasioned by the suspected period of contravening conduct.  The duration of that period may extend back for a considerable period, as in the recently announced class actions against AMP where a period of five years has been identified.

Once the funders and/or lawyers are satisfied that there is a sufficient basis for assuming the existence of contravening conduct, funding terms are discussed and (at least prior to the advent of the common fund order) there is an effort to sign up institutional and other group members (complex questions relating to issues of privacy and data sets are likely to arise in this context).  During this developmental stage, an announcement might be made of a potential class action, attracting media attention which may augment the number of affected shareholders who wish to participate in the proposed class action

To address the problems it identifies, the discussion paper has recommended:

The Australian Government should commission a review of the legal and economic impact of the continuous disclosure obligations of entities listed on public stock exchanges and those relating to misleading and deceptive conduct contained in the Corporations Act 2001 (Cth) and the Australian Securities and Investments Commission Act 2001 (Cth) with regards to:

  • the propensity for corporate entities to be the target of funded shareholder class actions in Australia;
  • the value of the investments of shareholders of the corporate entity at the time when that entity is the target of the class action; and
  • the availability and cost of directors and officers liability cover within the Australian market.

The impact of the continuous disclosure regime is is arguably outside the terms of reference so perhaps it is difficult for the ALRC to do more than it has, but the recommendation of a further review will not quickly take us closer to a solution.

Those with practical suggestions should make a submission, due before 30 July.

 

 

Safe Harbour Restructuring Plans: Would the Carillion turnaround plan pass muster?

On By Geoff GreenIn Loan workouts, Safe Harbour, Turnarounds1 Comment

The investigation in the UK  into the collapse of Carillion Plc by a House of Commons select committee provides rare public access to the restructuring plan for a large company.  Would the plan meet the requirements of Australia’s Safe Harbour regime?

The Collapse of Carillion

Carillion was a UK-headquartered construction company with worldwide operations employing 43,000 staff.  It was placed into liquidation on 15 January 2018 following the UK government’s refusal to provide emergency funding,

With only £29 million in cash and creditors of more than £4.6 billion the position was so dire that – according to the select committee report – the company was forced into liquidation because it could not find a administrator prepared to take on the job in light of uncertainty about whether there was enough money to cover their costs.

Investigations into the conduct of the directors and auditors by the Insolvency Service, Financial Reporting Council, Financial Conduct Authority, and the Pensions Regulator are underway.  In addition, the House of Commons Work and Pensions Committee launched an inquiry within a fortnight of the collapse.

As discussed here, the 16 May committee report (available here) is scathing in its criticism of directors, auditors, and regulators.  The Inquiry has also made public a large number of documents which would not ordinarily be available – most notably including the 100 page turnaround plan.

Australia’s Safe Harbour regime

Australia’s severe insolvent trading laws make company directors personally liable for debts incurred when a company is insolvent.

By comparison the UK’s ‘wrongful trading’ regime imposes liability if directors ‘knew, or ought to have concluded that there was no reasonable prospect of avoiding insolvent liquidation’ and did not take ‘every step with a view to minimising the potential loss to the company’s creditors.’

The Australian Safe Harbour regime provides company directors with protection against insolvent trading claims but only if their conduct and actions, and the conduct of the company, meet minimum standards.

Would the Carillion plan meet the Australian Safe Harbour requirements?

The plan does articulate an appropriate objective that is clearly a better outcome than liquidation, and it does identify the use of a big 4 accounting firm as an appropriately qualified adviser.

However the plan is silent about any steps the directors had taken to conclude that they are properly informed about the financial position of the company, or that they proposed to take to stay informed.  The document identifies a number of actions that have been taken, but it doesn’t really set out a future action plan, identify those responsible for each action, or set milestone dates.

Those omissions may not be fatal – perhaps there were other documents that provide appropriate detail.  The biggest difficulty that the directors would have in meeting the Australian criteria is that the forecasts in the plan exclude employee pension contributions from the company budgets, and paying employee entitlements ‘as they fall due’ is a key requirement of the Australian regime.

Too little, too late

Of course the Carillion turnaround plan was never designed to meet the Australian requirements, so it’s not a huge surprise that it doesn’t.  But nonetheless, that ‘failure’ highlights that it is essential for directors seeking to access safe harbour to ensure that they have a plan that is fit for that purpose.

In the case of Carillion, history shows that the plan was too little, too late: the company was in liquidation within a fortnight of the plan being finalised.