The recent decision of the English High Court of Lombard North Central Plc v European Skyjets Ltd  EWHC 728 (QB) provides important guidance to lenders and restructuring professionals when communicating with distressed borrowers. Actions will speak louder than words – whether in the form of a “non-waiver” clause in a contract or an express reservation of rights – when a court considers a lender’s response to default. of a borrower to honor its financing agreements. While there are no big surprises to emerge from Justice Foxton’s decision, the breadth and creativity of some of the arguments advanced by the Borrower’s lawyers nevertheless provided the Court with an opportunity to provide additional certainty for market participants.
In October 2008, the lender (Lombard) lent approximately $8.8 million to the borrower (European Skyjets Limited). The funds were used to purchase an aircraft. The loan was secured by a first mortgage on the aircraft and was repayable in monthly installments.
Between 2009 and 2011, the borrower missed several installments. This led to restructuring discussions between the parties and fees levied by the lender in exchange for a de facto waiver to exercise its right of acceleration. In November 2012, the borrower was deemed insolvent and Lombard demanded that the borrower pay the outstanding amount (at that time approximately $5.8 million). The following month, the borrower entered receivership and Lombard sued for the outstanding balance, arguing that its actions in terminating and accelerating the loan agreement, enforcing its guarantee and selling the aircraft, were valid. The borrower filed a counterclaim, arguing that Lombard had no right to terminate the loan agreement or sell the aircraft. The borrower also claimed damages arising from Lombard’s breach of its equitable obligations in the performance of the warranty and the sale of the aircraft.
Decision Points and Key Takeaways
The Court ruled in favor of Lombard. It was held that Lombard had the right to terminate and accelerate the loan agreement, but on the basis of material misrepresentations and events of default related to the adverse change (see point 3 below), and to make enforce its warranty. This is despite the notice of acceleration itself citing a case of non-payment which the court concluded did not constitute a valid basis for exercising the right of acceleration.
The Court’s judgment includes some important considerations for lenders when dealing with distressed borrowers, set out below.
1. Disclaimers and Reservation of Rights Letters: Throughout the loan relationship, the borrower has missed a number of payments. Lombard had, during this period, granted the borrower additional time to make these payments and had effectively accepted the late payments. As such, the borrower argued that Lombard was not entitled to invoke these late payments as grounds for terminating and accelerating the loan agreement. Lombard responded by arguing that the “non-waiver” clause in the loan agreement, coupled with the issuance of rights reservation letters, meant that it was entitled to rely on these missed payments as grounds. of acceleration.
The Court found that Lombard had, by its conduct, waived its right to rely on the missed payments to terminate and accelerate the loan agreement. Indeed, this was the case even if the termination/acceleration clause of the loan agreement did not require that a default be Continue when the notice of acceleration has been served. The “non-waiver” clause and reservation of rights correspondence were not effective in displacing Lombard’s assertion of contract by its conduct.
Lenders should remember that their conduct in asserting breaches of the agreement will prevail over provisions intended to protect them in the loan agreement or in contemporaneous correspondence. This conduct could include giving the borrower more time to pay, accepting late payments, charging and accepting late payment charges, and delaying action.
2. Obligations of the lender when assessing the value of secured property for the purpose of a financial commitment: The loan agreement included a financial covenant which was assessed by dividing the value of the aircraft by the amount remaining due under the loan. The relevant clause stated that the value of the asset should be valued in the opinion of the lender.
The Court determined that the clause obligates the lender to act reasonably, despite the absence of such an obligation in the clause itself. The Court did not accept the borrower’s argument that the covenant required the lender to first take all reasonable steps to determine the market value of the aircraft. The Court also rejected the borrower’s argument that the lender was required to take steps to increase the value of the aircraft.
3. Rely on a Material Adverse Change: The loan agreement stipulated that an event of default would occur if “in the opinion of the lender, a material adverse change occurs in the business, assets, condition, operations or prospects of a group company or any credit support provider.” For a lender to rely on such an event of default to terminate an agreement, the Court said it must be satisfied that the opinion was honest and rational and formed at the time of the service of notice. The Court was satisfied, based on evidence, that Lombard had considered the financial health of the borrower’s business to have deteriorated significantly and that the business was insolvent in terms of cash flow.
The Court noted that, on the wording of the clause, it was not necessary that the material adverse change actually had an objective adverse effect. However, lenders should carefully review these provisions and seek legal advice on the terms of the clause in question before taking action on the basis of a Material Event of Default relating to an Adverse Change.
4. Obligations of the lender on the sale of the secured aircraft: Lenders have a duty, when selling a secured asset, to take reasonable steps to obtain an appropriate price for the asset. Skyjets argued that Lombard failed in this duty, due to its conduct when storing the asset, the sale process it approved and the price that was set. Some of the behavior complained of by the borrower included that Lombard should have sought cheaper storage, that the external valuation obtained by Lombard was too low, and that there were shortcomings in the sales process, including the time that It took Lombard to appoint a sales agent and commission an external appraisal, and the aircraft was not advertised in some trade journals. The judge was not convinced that any of these factors meant that Lombard had breached the obligation. While this outcome is consistent with long-established legal principles, lenders should still ensure that they take steps to meet this obligation when seeking to assert and sell secured property. These steps may include obtaining a specialist appraisal and sales advice. Alternatively, lenders may choose to appoint a receiver or administrator to effect the sale rather than the mortgagee itself, and effectively transfer that risk to the relevant charge holder.
5. The implicit duty of good faith: Finally, the Court rejected the borrower’s (very ambitious!) argument that Lombard’s decision to terminate the loan agreement on the basis of an event of default was subject to the Braganca to have to. In short, the obligation of Braganza requires a party to exercise contractual discretion rationally and in good faith. In other words, Lombard’s rescission right was not the type to which this implied obligation to act in good faith applied; Lombard was able to exercise this termination right for its own purposes as it saw fit.