Magazine article Business Credit

Transaction Gone Bad? You Can Avoid the Courtroom

Magazine article Business Credit

Transaction Gone Bad? You Can Avoid the Courtroom

Article excerpt

Throughout the history of U.S. commercial finance, deals have occasionally gone bad. Borrowers default, markets change, collateral loses value--sometimes even the best planned and executed deal may turn out to be the biggest problem in a company's portfolio.

And historically, when a transaction has turned out for the worst, the standard procedure for the lender has been first to try to work out some sort of resolution directly with the borrower and then, failing that, to call the lawyers; time to go to court. Conventional wisdom says litigation is the only way to force the borrower to meet at least most of its obligations and to book something positive from the deal.

Too often, though, this "standard" procedure does not meet the lender's real business objectives. After spending a great deal of money, executive time, and management resources, the result may be simply a substantial write-off and a ruined relationship with a borrower.

But there may be an alternative to the conventional approach: mediation. As an alternative, mediation is economical, fair, confidential and neutral--and gaining popularity. The Department of Justice (DOJ) has seen an 82 percent increase in the number of cases resolved using alternative dispute resolution (ADR) over the past seven years. In 1995, there were 509 processed cases using ADR. This figure leapt to 2,866 in 2002, according to the Department's Office of Dispute Resolution.

In mediation, a neutral, experienced professional meets directly with the parties and their counsel and helps them find a way to resolve the issues that threaten to derail their deal or push them into litigation. Unlike an arbitrator, a judge, or a jury, the mediator does not make a ruling or impose a decision on the parties. Rather, the mediator meets with the parties and their counsel, both in joint sessions and separately, in confidential private caucuses, to dig into the issues and details underlying the dispute and understand everyone's real motivations and interests in the deal. Using this information (but keeping it confidential), a skilled mediator can work with all sides to help fashion a livable resolution for an. The result of mediation is a settlement agreement that is reached and documented by the parties themselves; and, although the terms of the settlement agreement itself are typically admissible and enforceable in court, the underlying details of the settlement remain private and confidential.

Case in Point

For illustration, let's consider a highly complicated, multiparty transaction: a large ticket leveraged lease. Here, the lessor has leased $80 million of equipment to the lessee, borrowing 70 percent of the total cost from a third party lender. The lessee is a substantial wholly-owned subsidiary of a large publicly-held conglomerate, but the lessee's parent is not a party to the deal.

The initial lease term was eight years. So far, at two different times, the lessee has missed making its rental payments; but, after gentle reminders from lessor's counsel, these were cured and the rent is now current.

The deal was done six years ago in a lessee's market, at fixed pricing very attractive to the lessee. Today, the lessor could do the same deal at a significantly higher yield. What's more, the equipment's residual value has deteriorated dramatically; the lessor's advisors believe it is probably worth today only about 50 percent of booked residual.

The lessor recently learned that the lessee has transferred the equipment and the lease obligations to one of its corporate affiliates. Although such transfers are allowed under the lease, the lessee is required to give notice, provide credit information on the assignee, and satisfy other covenants controlling transfers, none of which it has done. The lessee believes the assignment complies with the terms of the lease and that only the notice and other technical matters need to be cured. …

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