Presenting a live 90-minute webinar with interactive Q&A

Asset-Based Lending: Navigating Borrowing Base, Article 9 Collateral Issues, and Key Loan Documentation Provisions

THURSDAY, JANUARY 12, 2017 1pm Eastern | 12pm Central | 11am Mountain | 10am Pacific

Today’s faculty features:

Jenny E. Cieplak, Counsel, Crowell & Moring, Washington, D.C.

Harvey C. Guberman, Partner, Ballon Stoll Bader & Nadler, New York

Paul B. Hahn, Partner, Platzer, Swergold, Levine, Goldberg, Katz & Jaslow, New York

Scott A. Lessne, Senior Counsel, Crowell & Moring, Washington, D.C.

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Asset-Based Lending: Navigating the Borrowing Base, Article 9 Collateral Issues and Key Loan Documentation Provisions

Panelists:

Jenny E. Cieplak [email protected]

Harvey C. Guberman [email protected]

Paul B. Hahn [email protected]

Scott A. Lessne [email protected] 5 I. Overview – The Role of Asset-Based Lending A. Provides working capital B. Finances the most liquid assets in the borrower’s business 1. Liquidity spectrum – cash, receivables, inventory, machinery and equipment, real estate C. Forms of loan facilities 1. Revolving credit – committed and uncommitted 2. Floor planning facilities 3. Factoring arrangements

6 II. Overview – Collateral A. Asset-based lending is a subcategory of secured lending B. How much a lender will be willing to lend at any one time is governed by the quantity and quality of the assets securing the loan C. The concept of “eligibility is at the heart of the ‘borrowing base’” – the calculation used to determine how much is appropriate to lend

7 D. The definitions of eligibility and borrowing base formula limitations reduce the amount of cash advances available to a borrower, based on its total pool of accounts and inventory 1. Lenders will not lend dollar-for-dollar 2. Establishing a balance between collateral quality, collateral value and lending level is critical and will vary from loan to loan

Total Pool of Assets Perfected Security Interest Eligibility Criteria Borrowing Base Limitations Cash Advance Availability

8 III. Article 9 Requirements for Collateralizing an Asset-Based Loan A. The basics of obtaining a security interest in personal property 1. Attachment 2. Perfection a. Filing a financing statement b. Automatic perfection upon attachment for: i. Limited assignments of payment intangibles and promissory notes; ii. Sales of payment intangibles and promissory notes; and iii. The assignment of healthcare insurance receivables, if the assignment is made to the healthcare provider that provided the healthcare goods or services c. Control d. Possession

9 IV.Priority A. If two competing security interests are both perfected by filing, the first to file has priority B. If one security interest is perfected by filing and the other by possession, the first to file or perfect has priority C. Additionally, the time of filing or perfection is deemed the time of filing or perfection as to the proceeds (UCC §9-322(b)) D. Intercreditor arrangements may vary priority

10 V. Enforcement A. State law remedies 1. Article 9 remedies such as retention in full or partial satisfaction self-help; repossession and disposition 2. Replevin (other names may apply) where self-help is not available 3. Injunctive or prejudgment remedy relief to prevent the movement or other disposition of assets 4. Assignment for the benefit of creditors – common law and statutory 5. Compositions and forbearance arrangements

11 B. Article 9 remedies 1. Determine if a default has occurred 2. Secured party’s rights: Part 6, revised Article 9 a. The right to dispose of collateral by sale, lease, license or the like b. Retain collateral in full or partial satisfaction of the debt c. Collect payments from account debtors or others obligated on collateral 3. Surplus goes back to the debtor; debtor is liable for deficiency unless transaction was a “true sale” of a payment stream

12 4. Rights and duties of secured parties after default: 9- 601 a. Proceed under Article 9 b. Exercise contractual remedies c. Use the courts 5. Self-help repossession a. Secured party may not breach the peace; cannot be waived by the debtor 6. Consensual relinquishment of collateral to secured party

13 7. Possession and disposition after default (9-609 through 9-614) a. “foreclosure” by secured party sale i. Public sale vs. private sale ii. Every aspect of disposition must be “commercially reasonable” iii. Notice Requirements b. Collections of payment streams (9-607) i. Direct notification to account debtors c. “Strict foreclosure” (9-620 through 9-622) i. Secured party and debtor may agree after default that secured party may retain collateral in full or partial satisfaction of the debt

14 VI. Inventory A. “Inventory” shall mean and include as to Borrower, or as to any third party, all of Borrower's or third party's now owned or hereafter acquired goods (other than equipment), merchandise and other personal property, wherever located, to be furnished under any contract of service or held for sale or lease, all Raw Materials, Work In Process, Finished Goods and materials and supplies of any kind, nature or description which are or might be used or consumed in Borrower's business or used in selling or furnishing such goods, merchandise and other personal property, and all documents of title or other documents representing them.

15 1. If the borrower sells it in the ordinary course of business, it is Inventory, if the borrower uses it in its business it is equipment 2. “Goods” – which covers all things that are movable when a security interest attaches describes, among other things both inventory and equipment 3. “Value” shall mean, as determined by lender in its sole credit judgment, with respect to eligible inventory, the lower of (i) its cost computed on a first- in first-out (FIFO) [Last in first out (LIFO)] basis in accordance with GAAP; or (ii) its market value

16 VII.General Eligibility for Inventory A. Inventory shall mean and include, with respect to borrower, inventory consisting of finished goods owned by and in the possession of borrower and located in the United States of America, which lender, in its sole credit judgment, shall determine to be eligible inventory, based on such considerations as lender may from time to time deem appropriate

17 1. Without limitation, inventory shall not be deemed eligible unless such Inventory is subject to lender's first priority perfected security interest and no other lien (other than permitted encumbrances) 2. In addition, no Inventory shall be eligible inventory if: a. it does not conform to all standards imposed by any governmental agency, division or department which has regulatory authority over such Inventory or its use, sale or distribution, including but not limited to the Federal Fair Labor Standards Act of 1938 as amended, and all rules, regulations and orders thereunder; b. It consists of showroom samples, "seconds," packaging, supplies or catalysts;

18 c. it constitutes Inventory in-transit to borrower (while in- transit); d. it is subject to any licensing or similar contractual arrangement limiting the resale thereof by borrower or by lender as its attorney-in-fact unless a waiver satisfactory to lender is obtained from any such licensor; e. any covenant, representation or warranty made by the borrower with respect to such inventory has been breached in any material respect; f. it is obsolete, slow-moving or otherwise not merchantable; g. it has been consigned to borrower or to any third party for sale; h. it is not subject to a perpetual inventory reporting system acceptable to lender;

19 i. it is in the possession or control of any processor, finisher or other third party besides borrower or is otherwise situated at any public or private warehouse or upon any leased property unless such processor, finisher, warehouse operator, landlord or other third party has waived any lien or claim thereon, in a manner satisfactory to Lender, or lender, in its credit judgment has elected to impose reserves against the value of such inventory in lieu thereof (the amounts and duration of which shall be in Lender's sole credit judgment); or j. such inventory is not otherwise satisfactory to lender in the exercise of its sole credit judgment

20 VIII.Location of Inventory A. Landlord liens B. Warehouseman’s liens C. Liquidation issues

21 IX.Be Aware of Rules Pertaining to Special Inventory A. Airplane parts B. Pharmaceuticals C. Liquor/wine D. Food products – storage/PACA E. Chemicals

22 X. Determining the Advance Rate A. Generally advance against only “eligible” collateral B. Rate of advance as to accounts considers the historical “dilution” (percentage of accounts that were uncollected over a certain test period). C. Usually set at twice the dilution rate D. Also considered: 1. The general credit strength of a borrower’s customers; and 2. General economic conditions

23 XI.General Eligibility Criteria for Accounts A. Accounts – defined in the negative, i.e., receivable shall not be deemed to be an eligible receivable if: 1. The account debtor has failed to pay the receivable within a period of ninety (90) days after invoice date, to the extent of any amount remaining unpaid after such period; 2. The account debtor has failed to pay more than 25% of all outstanding receivables owed by it to borrower within ninety (90) days after invoice date; 3. the account debtor is an affiliate of borrower;

24 4. The goods relating thereto are placed on consignment, guaranteed sale, “bill and hold,” “COD” or other terms pursuant to which payment by the account debtor may be conditional; 5. The account debtor is not located in the United States, unless the receivable is supported by a letter of credit or other form of guaranty or security, in each case in form and substance satisfactory to lender; 6. The account debtor is the United States or any department, agency or instrumentality thereof or any state, city or municipality of the United States; 7. Borrower is or may become liable to the account debtor for goods sold or services rendered by the account debtor to borrower;

25 8. The account debtor’s total obligations to borrower exceed ___ % of all eligible receivables, to the extent of such excess; 9. The account debtor disputes liability or makes any claim with respect thereto (up to the amount of such liability or claim), or is subject to any insolvency or bankruptcy proceeding, or becomes insolvent, fails or goes out of a material portion of its business; 10. The amount thereof consists of late charges or finance charges; 11. The amount thereof consists of a credit balance more than ninety (90) days past due;

26 12. The face amount thereof exceeds $____, unless accompanied by evidence of shipment of the goods relating thereto satisfactory to lender in its reasonable discretion; 13. The invoice constitutes a progress billing on a project not yet completed, except that the final billing at such time as the matter has been completed and delivered to the customer may be deemed an eligible receivable; 14. The amount thereof is not yet represented by an invoice or bill issued in the name of the applicable account debtor which lists borrower’s New York office as the billing office.

27 BORROWING BASE CERTIFICATE

Date: ______TO: LENDING BANK Accounts Receivable as of date of last submitted certificate $______Sales $______Collections $______Credits, charges and other customer Deductions and returns $______Accounts receivable as of / /2016 $______

2. Ineligibles Over 90 Days $______Cross Aging $______Foreign Accounts $______Contra Accounts $______US Government Accounts $______Less Total Ineligibles $ ______Net Eligible Accounts $______

Net Accounts Availability (85%) $______

3. Total Inventory as of date of last submitted certificate $______Merchandise Received $______Cost of Sales $______Total Inventory $______Work in Progress $______Net Inventory $______

Inventory Availability (50%) $______

28 XII.Intellectual Property Law Issues in Asset-Based Financing A. Overview – Yes, IP is important, even for asset-based financings 1. A business that may not seem tech-heavy still has to operate in a world where IP is important. Foreclosing on the assets of that business will require knowledge of what IP is involved. 2. Inventory can bear trademarks, and can require software or other technology to operate 3. Accounts receivable that represent software license fees can also be considered “proceeds” of the software 4. Equipment can bear trademarks, can require software or patents to operate

29 B. IP Issues in Inventory Financing 1. Inventory may bear borrower’s trademarks – ensure loan documents contain license allowing lender to use trademarks to sell inventory 2. Inventory may bear third party trademarks – ensure that borrower has a proper license to these trademarks, and that borrower can assign the license to lender in a foreclosure 3. Inventory may incorporate software – make sure a foreclosing lender has rights to sell the software

30 C. IP Issues in Inventory Financing – Article 9 Categories 1. When is inventory not “goods”? a. If inventory includes software embedded in “goods,” that software and related documentation are part of the “goods” – as long as (i) the program is associated with the goods in such a manner that it customarily is considered part of the goods, or (ii) by becoming the owner of the goods, a person acquires a right to use the program in connection with the goods b. Inventory that is nothing more than a storage medium for software is not considered “goods” – it’s a general intangible.

31 D. IP Issues in Receivables Financing 1. Receivables for software licenses can constitute “proceeds” of the software 2. Be sure that another lender does not have a security interest in the software and its proceeds (may result in need for intercreditor negotiations)

32 E. IP Reps and Warranties to Cover in Financing Agreement 1. Borrower or its affiliates own all trademarks on inventory, or have appropriate licenses 2. Borrower has not granted security interests in its IP that will prevent the lender from selling inventory following a foreclosure 3. If inventory includes third party software, Borrower has authorization to sell inventory 4. If receivables are software receivables, Borrower has not granted a security interest in related copyrights and proceeds

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