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Tough Times for Lenders

Confidential Information May Not be so Confidential in Bankruptcy. Just Ask Apple.

Posted in Tough Times for Lenders, Trade Secrets, Workout Issues

It is said that when the debtor files bankruptcy the debtor is in a fish bowl.  The reason is simple:  the debtor in bankruptcy is required to make honest and sworn disclosure of all manner of financial and operational information on request and at regular intervals per the bankruptcy code.  Often, new and exciting liabilities and obligations are discovered by the lenders when their borrower files bankruptcy.  The policy behind this is obvious.  Moreover, rarely does a debtor find itself in bankruptcy because it was too honest.  However, sometimes this statutory preference for sharing collides with the real need to keep trade secrets, secret.

Apple Fish Bowl

Many of you probably heard of the Apple, Inc. vendor who filed bankruptcy.  The vendor, who is GT Advanced Technologies, Inc. and affiliates, made the screens for Apple phones.  The bankruptcy filing made the news because of the stunning possibility that anything related to Apple could be in financial peril.

The screens are technically difficult to make, but Apple sold over 10 million IPhone 6 phones in the first week.  Compare that to reports of Amazon Fire Phone sales of 34 thousand after two weeks.

As it turned out, the sheer scale of endeavor was too much for GT.  Also, it turned out that Apple requires, what some may call, significantly one sided contract provisions.

Two of the many things the contracts between Apple and GT required were:

i.            Attempt to make a bankruptcy remote entity, and

ii.            Keep Apple’s secrets, secret.

As it turns out, it only kind of worked.

For confidentiality, Apple’s terms provided that GT would be liable for $50 million in liquidated damages for each occurrence of disclosure by GT of protected information.  The information protected from disclosure was extremely broad and included disclosing “the nature of their business relationship” and the terms of the contract itself.

For the bankruptcy remote entity, it filed bankruptcy also.  It was faced with the specter of the enormous burden of the liquidated damages, among other things.

In a typical bankruptcy, GT would be required by law to disclose many parts of the business relationship with Apple on a regular basis, typically monthly as well as the terms of the agreements.  The potential for liquidated is therefore large.

However, the wayward debtor is not without salvation.  The bankruptcy code also allows the Court to “protect an entity with respect to a trade secret or confidential research, development, or commercial information;…” upon request.

Piece of cake, right?

Nope. The Bankruptcy Judge in GT didn’t feel that the information provided to him under seal was worthy of protection – notwithstanding the $50MM liquidated damages – and ordered the majority of it to be made public.  So – the information that was provided to the Court to justify the secrecy was in turn simply filed on the docket for all to see after the Judge made the ruling.

If you were interested in the business relationship between Apple and GT and their sapphire screens, unprecedented attempt to meet demand and ultimate downfall – it’s on the docket.  I should note, though, when I checked there was nothing of a purely technical nature.  Thus, the ruling is more a bench mark for expectation of what may actually be confidential in bankruptcy.

For borrowers, this is clearly a difficult path to thread.  For investors, this is a cautionary tale of how to protect your value.  For lenders, this provides some backstop to the idea that all trade secrets will be secret in bankruptcy.  Of course, if the borrower’s income exists because of a trade secret and it becomes public, you might not be getting paid back.

In re GT Advanced Technologies, Inc., et al., case no. 14-11916, pending in the United States Bankruptcy Court for the District of Delaware

Money for Nothing and Overdraft Fees

Posted in Uncategorized

Between 2005 and 2007, Wells Fargo made a paltry $1.4 billion in overdraft fees.  However, a California Federal Court found that those fees were a result of misleading practices and ordered Wells Fargo pay $203 million in restitution.  The award was recently affirmed by the Federal Appeals Court in the Ninth Circuit.  Gutierrez v. Wells Fargo, 2014 WL 5462407.

Overdraft fees put clients in dire straights

Overdraft fees put clients in dire straights

At the heart of the issue in the Gutierrez case was Wells Fargo’s practice of posting debits at the end of the day “high-to-low”; meaning, the largest debit was posted first and sequentially less debits were posted after in order of decreasing amount.  The alternative methods identified by the Court would have been “low-to-high” and “chronological”.

  • In high-to-low posting, the funds in the account are depleted more quickly, the result being that the remaining smaller debits create a larger number of overdrafts.  Thus, the overdraft fees are “maximized”.
  • On the other hand, the low-to-high posting allows the smaller debits to be satisfied first, leaving a lower number of overdrafts and thus lower overdraft fees.

The plaintiffs sued Wells Fargo under California law for unfair, unlawful, or fraudulent business practices.  Wells Fargo countered claiming that Federal Law, namely, the National Bank Act preempted (trumped) the state law, and therefore Wells Fargo was free to post the debits however they wanted.

The trial court found that:

  1. The “decision to post debit-card transactions in high-to-low order was made for the sole purpose of maximizing the number of overdrafts assessed on its customers”,
  2. Wells Fargo hid and misrepresented the way debit transactions were posted in their disclosures,
  3. Federal Law did not preempt the state law and Wells Fargo was liable for being both unfair and fraudulent in its posting high-to-low, and
  4. The plaintiffs (as a class) were entitled to $203 million in restitution, among other things.

Wells Fargo appealed.  In the first appellate opinion in this case (entered in 2012), the Ninth Circuit held that Federal Law permitted the high-to-low posting of debit transactions, and preempted the state law claim that the high-to-low posting was unfair.

but

The Ninth Circuit held that Wells Fargo was liable under the fraudulent prong of the state Unfair Competition Law.   Specifically, the Ninth Circuit affirmed the trial court’s holding that Wells Fargo’s failure to disclose the effect of the high-to-low posting combined with Wells Fargo’s “misleading statements” combined to make Wells Fargo liable under a fraud theory as a misleading statement. Further – this type of state law violation “is not preempted by the National Bank Act”.

Litigation continued until October 29, 2014, when the Ninth Circuit affirmed (in an unpublished opinion) the trial court’s award of $203 million in restitution and related injunction against Wells Fargo for violation of California’s Unfair Competition Law which prohibits misleading statements.

Normally, I would wrap up with how this would affect lenders, but I think it’s self-evident.  However, it is worth summing up a couple of things to consider:

First, lenders might want to take a look at their motivations and disclosures regarding overdraft fees.

 Second, lenders should be aware that their activities may be perfectly legal under Federal Law, but nevertheless may subject to them to liability under state law.

At the moment, the ruling considers only California Law, but it’s a safe bet that bank clients around the country who are being charged fees for having no money will be looking at those overdraft fees.

Tough Times for Lenders

How to Delete Your Way Into Liability

Posted in Lender Liability, Remedies, Tough Times for Lenders

I always assume that people who like NASCAR are really watching for the wrecks.  The cars loop around the track for hours, but only the wrecks make the highlight reels.  In a recent Texas Supreme Court case, the high court considered whether a supermarket was liable for destruction of evidence when it retained only the video recorded around the time of a slip and fall after its looped camera system deleted the rest.

shake and bake

The case is Brookshire Brothers Ltd. v. Aldridge at the Texas Supreme Court (for those of you outside of Texas, Brookshire Brothers is a supermarket).

In the Brookshire case, a slip and fall claim made it to the SCOTX because Brookshire had allowed a security camera (on a loop) to record over all but a few minutes before and after of the actual fall.  At the heart of Brookshire’s reasoning for recording over the video was the risk manager’s mistaken belief that the time prior to the fall was “not relevant”.

Even folks not familiar with the law have a general concept that destroying evidence is a bad thing.  The question in practical terms in a real lawsuit is – what is “evidence”.  At the heart of that question is relevance to the dispute.  That concept fills volumes of scholarly papers.  I won’t go into it here.

It is enough to know in the Brookshire case that the deleted portion of the looped tape was relevant, destroyed and the subject of the appeal. The Brookshire opinion is helpful for a few reasons, but primarily because it attempts to give a bright line to follow for dealing with a potential spoliation issue (which is the fancy name for “destroying evidence”).

For the lawyers reading, the SCOTX sets forth the test to determine after the fact whether evidence has been spoiled.

  • The trial judge gets to decide whether spoliation has occurred.
  • If so, did the party have a duty to reasonably preserve the evidence and did the party negligent breach that duty by failing to do so.

If the Judge determines that evidence has been destroyed, then the Judge gets to decide the remedy (which might include a spoliation instruction to the jury).

Important for the lenders on the front end – According to the SCOTX:

  • The duty to preserve arises when a party reasonably knows there is a substantial chance that a claim will be filed, and
  • That evidence in its possession or control will be material and relevant to the case.
  • Substantial chance of litigation means: when litigation is more than an abstract possibility or fear.

For the lenders, the take home rule is that if you spoil evidence either intentionally or negligently, after being aware of the claim you might be liable.

(A side concern is when does the duty actually arise?  In a future post I may go over litigation hold letters if anyone is interested)

Once you have spoiled evidence, the remedies are wide-ranging and unpleasant.  In Texas, if the spoliation was intentional then the jury may be instructed that all the spoiled evidence will reflect negatively on the spoiler.  Meaning, even if the destroyed evidence actually showed you doing the right thing, the court may instruct the jury that you were doing the wrong thing.

The Brookshire’s case is more than important to lenders.  Forget for a moment that this is a slip and fall grocery store case.  Rather, assume this is a lender liability suit and consider the volume of data that is aggregated and deleted daily in your databases.  For lenders, that alleged bad act rarely occurs in the branch office, but rather in the broader lending relationship.  The email statements, verbal statements, internal memos, meeting notes, calendar entries, etc. may be evidence at the next lender liability lawsuit.  At what rate are those being deleted and by whom?  Importantly, what does your retention policy look like?

Some clients have systems that automatically delete data as the data stream goes forward.  (Not to say that a doc retention policy can’t do that, but when a duty to preserve arises it generally will trump the retention policy.)  The lesson here is that regardless of whether your data is being deleted on a loop or not, you still want to be able to preserve all the information about the crash and not just the crash itself.

Technology Notes

Regulatory Cost Collaboration By ALL! (Even the Lawyers)

Posted in Compliance, Technology Innovation, Technology Notes

In meetings with senior executives and their in-house counsel, I hear this consistent cry: due to ever-increasing regulations, costs associated with compliance are soaring at commercial banks and at financial institutions that own banks (such as life insurance companies).  As a result, “regulatory cost collaboration” is becoming a key strategy for financial institutions with their key vendors.  It is a strategy that overlooks a very familiar and expense vendor: lawyers.

 

Puzzle missing legal

This omission will not last for long.

The impact of compliance costs is well documented (look at this report by Thomson Reuters; and this survey of small banks by Hester Peirce, Ian Robinson and Thomas Stratmann at the Mercatus Center [George Mason University]).

It is a story that I hear 100% of the time from senior executives.  Here are two examples:

  • Regional Bank (top 70 in asset size): it spent over $35million last year in regulatory compliance costs, such as rent, new employees, software and hardware
  • National Bank  (top 20 in asset size): the compliance group has grown from 100 employees to over 700 employees in the last several years

In response to the growth in regulations, financial institutions are striving to streamline processes, both internally and with their vendors.

In the context of third-party vendors, I call this “regulatory cost collaboration.”

Financial institutions with innovative leadership use “regulatory cost collaboration” like this:

  • the financial institution associates specific information, furnished by a specific vendor, with information needed under (or impacted by) regulations or compliance rules; and then
  • the scope of work for the vendor expressly requires performance of the vendor’s service or product in a form or format that minimizes the associated regulatory costs to be incurred by the financial institution

Vendors who implement this approach (or better yet, for a vendor who independently identifies a way to do this) are recognized as a “value-add vender” by the financial institution.

Of course, regulatory cost collaboration does not include the lawyers.

No one is surprised.

Collaboration from Lawyers: The Elephant in the Room

Collaboration from Lawyers:
The Elephant in the Room

 

Lawyers are one of the few “industries” where little has changed since I started in 1981.  “What” lawyers do and the “product” that lawyers deliver remains astonishingly unchanged since 1981.  Sure, today we have computers (and no secretaries), email (and no life) and instant access to everything (the internet is magical); and instead of paper closing binders, we e-mail the closing documents in a PDF format.

None of these changes meets my definition of the phrase “regulatory cost collaboration.”   Indeed, the changes remain lawyer-centric – even the PDF.

Unless the financial institution has specific rules governing the use of PDFs, the use of PDFs actually might be “anti-collaborative” in that it creates MORE work for the financial institution -

  • the PDF still must be “searched” in order to locate specific terms and provisions (since lawyers will “drop” a key provision in any location and in any document);
  • the PDF might not be in a searchable format;
  • even if searchable, the provision might be difficult to locate because the reader may fail to use the “correct” search term or phrases;
  • the identifier or name of the PDF itself might be unrecognizable (since it was generated by the law firm document management system); thus forcing the recipient to “open” it and then rename it

Of course, Richard Susskind and others continue to predict some sort of disruptive change, where the legal industry will deliver the product (be it paper or expensive advice) in a manner that assists Companies in conducting business.  There were numerous conferences and meetings on the topic in the past year (Harvard Law; Suffolk University Law [Kennedy-Mighell podcast summary]); and various legal tech thought-leaders closely monitor the topic (the ABA Law Practice Magazine, July/August 2014 issue is wonderful; and the ABA Legal Rebels is interesting).

Of course, nothing addresses the practical, real time (right now) need for regulatory cost collaboration by lawyers.

Yet.  Stay tuned.

If you see this differently or have something to add, please comment below.

Tough Times for Lenders

No Good Deed Goes Unpunished When Accepting Payment from a Non-Borrower on Behalf of a Borrower

Posted in Guaranty Issues, Lender Liability, Tough Times for Lenders

I have found this to be true over and over again.  Maybe it’s just my line of work.

Grump Cat

Part of my regular practice is being called in by the transactional lawyers (paper pushers) as they paper up a new loan or re-fi.  My job in those situations is to give my thoughts on what will happen should the worst occur (eg, default, receivership, bankruptcy, lawsuit, etc.) and how to minimize the risks to the lender.

Often times, identifying potential fraudulent transfer exposure on the front end is of concern when the lender creates some type of relationship with a non-borrower affiliate or insider of the borrower. The usual situation is a guarantor, but other situations exist such as payment from a non-borrower affiliate.  A recent 5th Circuit case discusses such a situation.

The BackgroundSkip this if you are Familiar with Fraudulent Transfers

There are a few types of “fraudulent transfers” under both federal and state law.  Generally speaking, however, a fraudulent transfer occurs in two ways:

  1. When bad guy transfers something of value to the other guy in exchange for something that is less than reasonably equivalent value.  Think, cow for the beans. Or,
  2. When the bad guy transfers something to 2nd bad guy in an out-and-out fraudulent scheme.

I have oversimplified it to fit into a minimal of bullet points.  The gist is to recover value when the transferor (sender) transfers value to another party when the transfer would reduce the overall value of the transferor.  The underlying idea being that other creditors need protection from a transferor sending all its assets to his buddy in exchange for minimal or no value in order to defeat collection by other creditors.

Many of you have already had to deal with this issue in lending.  For the un-litigated, this arises for lenders in situations where the bank is receiving payments from a non-borrower on account of an existing loan.  In that situation, the bank may be receiving money (the value) but not giving anything back to the non-borrower in exchange.  (In a normal repayment, the funds paid by a borrower credit the debt, thus equivalent value exchange).

The Recent RulingThe Netting Effect

 In the case of a lender who is taking funds from a non-borrower in good faith, there is some protection when sued for fraudulent transfer under the bankruptcy code.  This was the issue recently discussed in Williams v. FDIC in the Fifth Circuit.

At issue was what happens when a unknowing lender has received a fraudulent transfer from a non-borrower because of actual fraud, but the non-borrower transferor actually received some (but not full) indirect benefit.  Specifically, the non-borrower affiliate company directly paid the mortgage payment to the lender on commercial property as “rent” thereby staving off foreclosure on behalf of the building owner (who was the borrower).

In this case, the Fifth Circuit said that the good faith lender is liable for fraudulent transfer, but the lender was only liable for the net amount received greater than the benefit obtained by the transferor.

  •  Ex:  Lender was paid $100.  Non-Borrower transferor obtained $70 in value.  Bank is liable for $30.

Why is this important?  The lender need not be a party to a fraudulent scheme to get tagged with a fraudulent transfer lawsuit.  In that situation, even if the lender can show that it exchanged reasonably equivalent value (the normal bank defense), if the payment was part of an actual fraudulent scheme the bank had no idea existed – the bank will still be liable for the “net” positive it received over the transferor’s “net” negative.

This type of risk is, of course, inherently difficult to quantify.  A valuation of the unknown benefit is obviously a difficult proposition on the front end.  This remains true at the time the lender determines to accept payment from the non-borrower.  Additionally, the retrospective value determined may not always be the prospective value anticipated.

Just something to think about when you are assessing the risk of accepting funds from non-borrowers and looping in insiders and affiliates to the obligation stack.

Technology Notes

Back to Blogging (Better Blogging – Tips & Testimonial)

Posted in Technology Notes

I’m back. Back to blogging. Home here at L360.

The Return of the Prodigal Son Painting by Bartholome Esteban Murillo National Gallery of Art (Washington, D.C.)

The Return of the Prodigal Son
Painting by Bartholome Esteban Murillo
National Gallery of Art (Washington, D.C.)

Several years ago, Kevin O’Keefe or Tom Mighell (one of them) commented that the majority of legal blogs last less than a year. Clearly, I’m one of them on quiting. It just took me longer to quit.

I stopped regularly blogging after 4 years (from September, 2008 until October 2012), and after over 420 blog entries. Always focusing on commercial finance, I started blogging on distressed debt topics (under the “ToughTimesForLenders” blog name).  As the economy (kind of) recovered, the blog became “Lenders360blog” in order to cover “positive” finance topics. Finally, technology was added since it is an operational pillar for all commercial lenders.

This threefold transformation reflected my personal journey. After all, blogging is personal. (Blogging tip #1: make your blog personal. Ditch the academic mumbo-dumbo. Mix meaningful content with your personality.)

THE QUESTION: Why come back to blogging?

I’m going to pretend you noticed that I quit, or even care that I’m back. (In another posting, I’ll cover the sibling, and for some the more interesting, question: “why did you stop blogging?”) (Blogging tip #2: leave a teaser early . . . .)

QUICK ANSWER: Blogging been berry, berry good to me. (Baseball, not so good for my Texas Rangers – good or bad, I slip them into this blog.)

Simply stated, blogging jump-started my current professional focus. (Blogging tip #3: . . . and tease often.)

NOT TO BLOG:

This is NOT a blogger

This is NOT a blogger

At first glance (and maybe every glance), blogging appears to be just another selfish, fruitless mound of babbling by lawyers striving, in a quick (and for me, quirky) 90 minute breather, to escape the following (mark your favorite ones – you’re lying if you only mark one):

◊  Keyboard Pounding

◊  Email Grenades (they lob it into my email inbox and run)

◊  Phone call wrestling

◊  Compensation Complaining

◊  Hourly Rate Creeping

◊  Legal Fee Complaining

◊  34/7  workstyle (not a typo)

◊  Teach oung Lawyers; Then they leave; Repeat

◊  What I’d give to not share a Secretary with 3 other lawyers

◊  Billing games (firm policy v. client reality)

◊  Wine’n Dine; Work & Bill; Client Whine; Then Repeat

◊  What I’d give to afford a Paralegal

(Blogging tip #4:  audience participation and engagement; they ARE in the room with you right now.)

Ultimately, however, the evaluation of a blogs is reflected in the frequency of the blog. Infrequent blogging is an “admission against interest” by the blogger. Why should anyone notice or even care, when the blogger doesn’t care enough to regularly blog?

This point is painted best in a story told on The Ticket years ago.  (Blogging tip #5: make it a story; even adults cuddle up to stories.)  The Father-Coach of a YMCA football team (tackle football, of course) was ranting on his 10 year old son for sloppy play. The son looked up (way, way up) to Father-Coach and said:

“Dad, I cain’t hear what yu saying, cuz yu acting so loud (sic).

(So, who is sick in this story?) (Repeat Blogging tip #5: make it a story; even adults cuddle up to stories)

Blogging: love it or leave. Don’t be half-hearted at it.

Your clients recognize a half-hearted effort. Do you ever want to be half-way on anything touching your reputation and your means of income?

TO BLOG

“It’s not just what you know — it’s who knows what you know.” Cordell Parvin

“It’s not just what you know — it’s who knows what you know.” Cordell Parvin

Here are some of the reasons “why” I enjoy and benefit from blogging (no priority order):

  • People: They Want Information

People working at financial services companies want information.  They want it “when” they need it; they need information on demand.  So, make basic information available to them. Be helpful; and in return, they will seek you for help. Over the years, I jump start this by handing out or sending lists of popular blog entries.

  •  People: They Know Me Before I Know Them

Many loan officers know me before I even meet them.  Blogging accelerates relationships – it does NOT replace them.  But, it sure is nice to meet a stranger to me who knows me.

  • People: Earn a Reputation and Meet the Right People

With hundreds of blog posts on a wide range on good lending, bad lending and technology topics, my expertise is “out there” for all to read.  The blog fed my reputation through (i) conversations with reporters, (ii) publishing pieces in industry magazines (including the technology column in the bi-monthly ABA RPTE Section’s eReport), (iii) speaking engagements at law schools, State Bar seminars, industry organizations and financial services companies, and (iv) memberships in important organizations, such the American College of Mortgage Attorneys and the remarkable Association of Life Insurance Counsel (where I co-chair the Communications Committee with the gifted Gretchen Cepek of Allianz Life Insurance Company of North America).

  • Teaching & Constant Learning

I use the blog as a resource in presentations with clients, and within the law firm as a tool to mentor younger lawyers.  Importantly, it keeps me engaged with industry trends and challenges, and positions me with friends and clients as a constant source for new and valuable information.

  • Change: the Conversation

Bloggging changes conversations.  For example, I use listings of the most popular blog entries as conversation starters, giving others the opportunity to share their experiences or perspectives with me.  They tell me what is important to them.

  • Change: It is Personal

Blogging changed me.  I progressed from telling my story, to hearing the client’s needs and then to understanding both the client’s business and the value and uses (current and potential) of our legal work product.  Importantly, I learned that my legal work product was the beginning, not the end.

  • Change: Our Friend

Change.  We often complain of change. As I return to blogging, I return appreciative of the friends who connected with me because of the little blog called Lenders360blog (and it’s predecessor, ToughTimesForLenders). And also I return with many thanks to the attorneys and talented friends at Winstead PC who shared ideas with me; and with special thanks to the gifted Allen Fuqua and Rachel Guy.

  • Change: My New Venture

However, I’m back in a very different role and with a radical focus.  Blogging, listening and learning pointed me to a new venture.  I now manage legal workflow and create tools that lift legal content out of the traditional, manual legal process into a self-service process – a transformed process with rich collaboration, communication and information gathering.  Companies save money.  Companies harvest new value.  Blogging contributed to the insight behind my new venture.

(Blogging tip #6: keep blogs short (400-500 words).  This one is over 1,100 words. Wow. Horrible.)

Please add your thoughts or experiences about blogging by commenting below.

Tough Times for Lenders

Sticks and Stones May Break Your Bones, but Reliance Waivers Can Still Hurt You

Posted in Lender Liability, Reps & Warranties, Tough Times for Lenders, Uncategorized

Last week Regions Bank sued Comerica Bank seeking a declaration that Regions is not liable to Comerica in connection with their $53MM syndicate loan to a plant nursery that went very wrong.  Regions Bank v. Comerica Bank, civil action 3:14-cv-3607, pending in the United States District Court for the Northern District of Texas.

In short:

  • The two banks loaned $53MM (total) to the plant nursery based on allegedly massively fraudulent inventory numbers.
  • The nursery filed bankruptcy and basically everyone apparently got sued for the alleged fraud.
  • Comerica allegedly has been threatening Regions with a lawsuit for misrepresentation or fraud for talking them into the syndicate.
  • Rather than wait for the lawsuit, Regions filed its declaratory judgment action.
  • In the lawsuit, Regions asserts that Comerica contractually waived any reliance on facts or representations that Regions provided to Comerica.  Thus, argues Regions, Regions cannot be liable to Comerica on account of Comerica relying on any information Regions forwarded to Comerica about the borrower.

There are a number of issues related to the lawsuit that are worthy of analysis.  (There are also a number of one-liners about money not growing on trees).  However, as the case is only a week old it provides a good avenue to illustrate the two levels of reliance waivers in Texas.

Money Dino

What kind of waiver am I talking about?  Contracting parties can waive reliance on representations of the other which are not contained in the contract.  It seems straightforward – if the representation is not in the contract, then forget I said (or failed to say) anything prior to signing.  Why the two levels then?

  •  The Basic Waiver: The typical waiver of reliance in a contract will essentially say that the parties waive any reliance on non-contractual representations.  However, the SCOTX has pointed out that such a contractual provision, like any contractual provision, is subject to avoidance for fraud.  Essentially, even if you waive reliance on prior non-contract statements, if someone made a fraudulent misrepresentation that lead to the execution of the contract (without the representation), the contract risks being avoided for fraud.
  • The Super Wavier: On the other hand, the SCOTX recognizes that some parties may contractually agree to waive any reliance non-contractual representations, regardless of how fraudulent they might be, if the parties so intended. Thus, the super waiver.

So, which waiver is in your contract?  It depends on what the Court thinks you meant when you signed the contract (containing the waiver).  Any answer that begins with “it depends” is not a lot of comfort for lender clients and the SCOTX has been somewhat unclear about which is which.

The SCOTX has said that “The contract and circumstances surrounding [the contract’s] formation determine…[how expansive the waiver is]”.  Schlumberger v. Swanson, 959 S.W.2d 171.  The Court goes on to instruct that lower courts should consider the sophistication of the parties, course of dealings and representation by counsel and, importantly, did the parties intend to put a final end to a long running dispute to determine whether the waiver is basic or super.  (Both terms I made up for ease of reading this post so don’t Google them).

I have not parsed through the complaint in the Regions case and Comerica has not yet answered.  Also, I am not opining on the merits of either parties’ positions.  However, the case provides a good excuse to point out that even if two parties waive any reliance on prior representations, in Texas, that waiver may not be enough to waive claims of fraud.  Meaning, the Court may let the case proceed even if a waiver of reliance is contained in the contract regardless of whether the fraud claim is ultimately determined to be without merit.

Lenders should be cautious and deliberate when drafting these waivers of reliance to attempt to remove as much risk as possible that a court will later find that the borrower may sue the lender for fraud.

Tough Times for Lenders

Would You Rather Litigate In Odessa, Texas Or The Cayman Islands?

Posted in Lender Liability, Tough Times for Lenders, Venue

If you’re the bank’s attorney, the answer is always going to be the Cayman Islands.  Nothing against Odessa, they just don’t have much of a beach.

But, if you are the bank, chances are you would rather be local if you need to sue.  In the recent Fifth Circuit case Monkton Insurance Services v. Ritter, case 13-50941, the Fifth Circuit agreed with Cayman Island bank Butterfield Bank (Cayman) Ltd. that a lawsuit against the bank needed to be filed in the islands.

In the Monkton case, William Ritter formed a Cayman Island insurance company which was managed by the Cayman Island management company, Monkton.  David Self was the Monkton employee that was in charge of managing the insurance company.  Presumably, the insurance company was conducting legitimate business and performing reasonably well, because it had about $500K in its Butterfield Bank account which Self, allegedly, made off with.

Allegedly, Self forged Ritter’s signatures.  Ritter was somewhat upset and demanded repayment, which Self paid by (again, allegedly) simply taking funds from other clients’ accounts.  Lawsuits ensued.

Whereas Ritter lived in Odessa, Texas, Monkton sued Ritter for return of the cash that Self had paid to Ritter personally.  Ritter then filed a third-party lawsuit against Butterfield Bank in Odessa (as part of the Monkton lawsuit).  Basically, Ritter was claiming lender liability for failure to spot the forged withdrawal documents.

Quick to note that they did not like Odessa, Butterfield Bank moved to dismiss the claims against the bank for lack of jurisdiction.  Basically, Butterfield Bank argued that they lacked enough connection with Texas to permit a Court in Texas to hear a lawsuit against them.

The Trial Court agreed; and the Fifth Circuit also agreed with Butterfield.  Notwithstanding 1) phone calls and wired transfers to and from Texas, 2) a website accessible from Texas for Texas clients, and 3) Butterfield Bank maintaining an account for a client doing business in Texas – the Courts agreed that Butterfield was not subject to being sued in Texas.

The underlying legal issues involving subject matter jurisdiction are discussed in the case, and are more technical than most non-lawyers would care to read about.  I find them interesting, though, so feel free to give me a call to discuss.

The take home message from this post for lenders is this: simply because you are doing business for a foreign entity in Texas does not mean you will necessarily get to sue them in Texas if things go bad.  Proper venue and jurisdictional clauses in agreement are a must as well as venue creation tools, such as SPEs.  The business world is getting smaller and you might prefer not to send your attorneys around to the world when a deal goes bad.

Tough Times for Lenders

Risks of Over-Sharing or: How I Learned to Stop Worrying and Love the Attorney-Client Privilege

Posted in Discovery, Remedies, Tough Times for Lenders

Believe it or not, when you (the good guy) accidently produce in discovery an internal memo which is subject to attorney-client privilege to the bad guys (the guys suing you), the bad guys might not give back all the copies.  And, if you are really unlucky, the bad guys will distribute it to other bad guys also suing you for similar reasons.  You might even litigate the issue to the Fifth Circuit court of appeals and win, but the cat will be out of the bag.

In the Fifth Circuit case Exxon Mobil v. Hill, No. 13-30830 the Court held that an internal memo discussing the radioactivity of material (and its harm) was subject to attorney-client privilege. The Court held that the nature of its creation precluded the need to provide the memo in discovery (even though people got very sick from the radiation).  However, the cautionary tale is that even though the plaintiff returned a copy, he did not return all copies of the memo that was accidently shared.  What ensured was years of litigation.

At the center of the case is a memo drafted by Exxon’s in-house counsel concerning whether to provide radioactivity test results (related to drilling pipe) to a potential contractual counter party who was offering to clean the drilling pipe as a contractor.  In the memo, the in-house counsel opines that Exxon should only provide the information specifically requested by the contractor and that Exxon would not provide the additional information which showed a significantly higher level or radioactivity.

Not surprisingly, litigation ensued over the course of many years after numerous workers became sick from the radioactivity on the drilling pipe.  In the course of one of the many lawsuits “Exxon accidently produced..” the memo.  Exxon’s counsel realized the mistake and invoked the claw back provision (which should require the other side to give back the document).  The opposing counsel did, in fact, return the copy he received.  But, the attorney also “kept a copy of the [] memo and distributed it to other plaintiffs’ attorneys, who in turn attempted to use it in the other cases.”

What following was another parallel set of litigation in which Exxon sought to assert the privilege over the memo in numerous state and federal courts with mixed results.

The 5th circuit, in considering whether to permit the assertion of privilege over the document, held that the memo was privileged.  While the court construed Louisiana state law, the Louisiana version of the rule of evidence is fairly similar to the Texas rule governing privilege.

The 5th circuit stated “The []memo reflects the advice by in-house counsel concerning the disclosure of certain data during negotiations.  Context here is key: The document was prepared during contract negotiations in which both side were assisted by legal counsel.  The negotiations, according to the record, involved a number of legal issues, including indemnity for downstream tort claims, storage and handling of nuclear residue, licensure, trade secrets and other issues.”

Thus, the memo was subject to attorney-client privilege.  But, the general counsel reading this post are not now reaffirming their belief in the technical protections of the attorney-client privilege. Rather, the underlying lesson here is: don’t accidentally send documents that are subject to the attorney client privilege out the door.  Easier said than done (and paid for).  Here, Exxon won the battle and lost the war.

In some litigation arenas, the trend is to produce everything and then figure out what was subject to privilege (for cost reasons).  For lenders who might be exposed to other similar litigation, the relief you have in not paying for a more thorough vetting of documents might be replaced by the anxiety of litigating about it more years.

Good Times for Lenders

OCC’s Commercial Real Estate Lending Handbook: Misses the List on Legal Issues

Posted in Articles, Good Times for Lenders, Guaranty Issues, Market Trends, Remedies, Technology Notes, Training

Over the last few weeks, I’ve commented on the new version of the OCC’s Commercial Real Estate Lending Handbook (I give it a gentlemen’s C); and I listed a few legal topics that deserve some guidance from the OCC. “Guidance” could even merely be a list of important topics (ending with a warning that the list is NOT an all-inclusive list). I expect legal issues to be identified and put on the “check the box” list by the OCC  - with the banks expect to check the box. The "Blank" List   Unfortunately, instead of leading the class by at least listing legal issues associated with risks in commercial real estate lending, the OCC implicitly affirms those banks that under value and under utilize legal counsel.  (Let’s resist the temptation to comment on “why” this takes place.) Fortunately, some banks are very good at identifying and monitoring legal issues. Several of them do this by a simple two step process:

  1. List key legal provisions in loan documents
  2. Instruct legal counsel to report, in writing AND PRIOR to closing, if these provisions are altered

Here is a sample list (it is NOT an exhaustive or all-inclusive list):  legal counsel must report (in writing) any changes, from the bank’s standard form, in loan document provisions that cover the following –

  • grace period, late charges and default interest
  • prepayment, lockout and yield maintenance
  • transfer restrictions (due on sale) provisions
  • subordinate financing (due on encumbrance provisions)
  • material deviations in, or deletions of, the remedies provisions (unless required under the governing law of the state in which the collateral is located)
  • recourse provisions
  • environmental provisions
  • taxes and insurance premiums escrows
  • any reserves or other escrows
  • granting clauses or form description of collateral contained in such granting clauses (unless required under the governing law of the state in which the collateral is located)
  • casualty or condemnation provisions
  • addition of a provision allowing a release of collateral (unless expressly provided for in the credit approval)
  • lender approval process relating to amendments, renewals or termination of major leases (or new leases)
  • cooperation provisions, including use of any future technology required by lender (such as on-line reporting and delivery of required materials and information)
  • WARNING: __________ [this list is not "all-inclusive" and you should revise it as needed]

My suggestion is that every bank (or other lender) take this approach.  Surely at some point, the OCC will view this simple approach as a key to safe and sound banking practices. Please share you comments below.