Westlaw Journal BANK & LENDER LIABILITY

Litigation News and Analysis • Legislation • Regulation • Expert Commentary VOLUME 18, ISSUE 15 / DECEMBER 3, 2012

LIBOR WHAT’S INSIDE

ALLISON FRANKEL’S ON THE CASE Alabama homeowners target big banks 7 In Argentine ruling, 2nd Circuit upholds power in scandal of U.S. courts A group of homeowners has filed a class-action lawsuit against major lending CRIMINAL LAW institutions for manipulating Libor to artificially inflate interest rates on adjustable 9 MoneyGram must pay mortgages and other financial instruments for nearly a decade. $100 million to victims of scheme Adams et al. v. Corp. et al., United States v. MoneyGram No. 1:12-CV-07461, complaint filed (S.D.N.Y Int’l (M.D. Pa.) Oct. 4, 2012). ELECTRONIC FUND According to the complaint filed in the U.S. TRANSFER ACT District Court for the Southern District of New 10 N.Y. bank didn’t give notice York, more than a dozen American and European of ATM fees, suit says banks conspired to fix the London InterBank Katz v. Empire Nat’l Bank Offered Rate, or Libor, between 2000 and 2009. (E.D.N.Y.) The defendants include such banking industry ADVANCEMENT giants as Bank of America Corp., , The five named plaintiffs are homeowners in Mobile, Ala., pictured here, 11 Insurer must pay directors’ AG and JPMorgan Chase. whose mortgages were manipulated by various banks using Libor. legal costs The suit is widely reported to be the first class- conspiracy” to fix or set Libor, raising interest rates W Holding Co. v. Chartis Ins. action alleging Libor manipulations brought by on adjustable-rate notes and thus increasing the Co. (D.P.R.) homeowners rather than investors or government gap between what the banks paid to investors and COLLATERALIZED DEBT entities. the amount collected from mortgage borrowers OBLIGATIONS The five plaintiffs, all homeowners and residents like the plaintiffs. 12 German bank’s CDO suit of Mobile, Ala., whose mortgages were The first named plaintiff, Annie Bell Adams, proceeds against Barclays, collateralized into mortgage-backed securities by is a pensioner whose home was repossessed, State Street various lenders and sold to investors, according allegedly as a result of the increased rates. Bayerische Landesbank v. to the complaint. Barclays Capital (S.D.N.Y.) Libor is a set of interest rates used as a benchmark The suit claims that those lenders and other for everything from mortgage loans to CREDIT RATING AGENCIES unnamed co-conspirators entered into a “global CONTINUED ON PAGE 16 13 Rating agencies conspired in subprime fraud scheme, investors say COMMENTARY King County v. IKB Deutsche Industriebank AG (S.D.N.Y.)

LEAD COUNSEL ISSUES The small-business borrower 14 It’s a 4-way fight to lead and the continuing Hudson City–M&T Bank merger suits Benjamin W. Baldwin of Robinson, Bradshaw & Hinson discusses issues that small Lasker v. Hermance (Del. Ch.) businesses should keep in mind when seeking bank financing in the current economy. SEE PAGE 3 41246913 TABLE OF CONTENTS Westlaw Journal Bank & Lender Liability Libor: Adams v. Bank of Am. Published since September 1997 Alabama homeowners target big banks in Libor scandal (S.D.N.Y.)...... 1 Publisher: Mary Ellen Fox Commentary: By Benjamin W. Baldwin, Esq., Robinson, Bradshaw & Hinson Executive Editor: Donna Higgins The small-business borrower and the continuing financial crisis...... 3 Managing Editor: Phyllis Lipka Skupien, Esq. Editor: Catherine A. Tomasko Allison Frankel’s On the Case In Argentine bond ruling, 2nd Circuit upholds power of U.S. courts...... 7 [email protected]

Managing Desk Editor: Robert W. McSherry Criminal Law: United States v. MoneyGram Int’l MoneyGram must pay $100 million to victims of fraud scheme (M.D. Pa.)...... 9 Senior Desk Editor: Jennifer McCreary Desk Editor: Sydney Pendleton Electronic Fund Transfer Act: Katz v. Empire Nat’l Bank N.Y. bank didn’t give notice of ATM fees, suit says (E.D.N.Y.)...... 10 Westlaw Journal Bank & Lender Liability (ISSN 2155-0700) is published biweekly by Advancement: W Holding Co. v. Chartis Ins. Co. Thomson . Insurer must pay directors’ legal costs (D.P.R.)...... 11 Thomson Reuters Collateralized Debt Obligations: Bayerische Landesbank v. Barclays Capital 175 Strafford Avenue German bank’s CDO suit proceeds against Barclays, State Street (S.D.N.Y.)...... 12 Building 4, Suite 140 Wayne, PA 19087 Credit Rating Agencies: King County v. IKB Deutsche Industriebank AG 877-595-0449 Rating agencies conspired in subprime fraud scheme, investors say (S.D.N.Y.)...... 13 Fax: 800-220-1640 www.westlaw.com Lead Counsel Issues: Lasker v. Hermance Customer service: 800-328-4880 It’s a 4-way fight to lead Hudson City–M&T Bank merger suits (Del. Ch.)...... 14

For more information, or to subscribe, Swaps: Bank of N.Y. Mellon Trust Co. v. Lynch Capital Servs. please call 800-328-9352 or visit Merrill Lynch wins early termination of swaps (N.Y. App. Div.)...... 15 west.thomson.com. News in Brief...... 16 Reproduction Authorization Authorization to photocopy items for internal Case and Document Index...... 17 or personal use, or the internal or personal use by specific clients, is granted by Thomson Reuters for libraries or other users regis- tered with the Copyright Clearance Center (CCC) for a fee to be paid directly to the Copyright Clearance Center, 222 Rosewood Drive, Danvers, MA 01923; 978-750-8400; www.copyright.com.

How to Find Documents on Westlaw The Westlaw number of any opinion or trial filing is listed at the bottom of each article available. The numbers are configured like this: 2011 WL 000000. Sign in to Westlaw and on the “Welcome to Westlaw” page, type the Westlaw number into the box at the top left that says “Find this document by NOT A SUBSCRIBER? citation” and click on “Go.” Don’t miss out on the excellent litigation news coverage and timely commentaries brought to you by Westlaw Journals. News briefs, agency reports, coverage of new and proposed legislation and regulations, verdict roundups, photos and graphics, and visual aids like lists and charts to highlight key information all come to you with each issue of your subscription.

Call us at 800-328-4880 or find us on the store at west.thomson.com by searching “Westlaw Journals” to begin your subscription today.

2 | WESTLAW JOURNAL n BANK & LENDER LIABILITY © 2012 Thomson Reuters COMMENTARY The small-business borrower and the continuing financial crisis

By Benjamin W. Baldwin, Esq. Robinson, Bradshaw & Hinson

“The wind and the waves are always on the selected smaller banks that were later side of the ablest navigator.”1 acquired by larger ones. (By way of definition, Life for small business borrowers has the considers a community improved significantly since 2009, but that is bank to be one with total assets of $10 billion 2 damning the economy with rather faint praise. or less. ) In fact, it remains a challenging environment, Why is a small or community bank a better and global economic conditions do not option for the small business borrower? currently indicate a significant rebound in the Because of the types of information relied on United States in the near future. How can by the banks in making credit decisions, and a small business in need of bank financing the processes by which those decisions are these days maneuver effectively? made. Large banks and community banks Second, in terms of process, because of the way community banks and larger banks are This commentary explores the question tend to differ in both respects. structured and because of a community bank’s and seeks to offer general suggestions for more detailed understanding of the smaller small businesses and their counsel, from the Common intuition, company and its ties to the community, small selection of a lender to managing problems banks tend to be more agile in reacting to and default scenarios. statistics and the experts all support the notion the needs of their customers. This is in part WHICH BANK IS BETTER — LARGE that small businesses are because community banks face lower costs OR SMALL? and fewer bureaucratic barriers in evaluating better off dealing with their customers and monitoring their Common intuition, statistics and the experts community banks. performance. In addition, community bank all support the notion that small businesses loan officers generally have more autonomy are better off dealing with community banks to make executive credit decisions than loan First, in terms of the types of information as opposed to larger regional or nationally officers at larger banks. Credit decisions by relied on by the banks in making credit scaled banks, especially when the businesses large banks will often involve participation decisions, community banks tend to take a experience challenges or difficulties. Of by officers with limited knowledge of the more subjective approach than their larger course, such advice may come too late for company (due to geographical separation or counterparts. This type of banking focuses small, struggling companies that selected loan officer turnover) and in addition some somewhat less on objective credit scores larger banks before those companies’ sort of head-office approval. In contrast, a and more on the customer relationship and fortunes soured, or small businesses that local community bank loan officer will often community considerations, and the bankers have broad discretion and authority to make making these credit decisions may rely on a credit decision and in a more expeditious discretionary powers and “soft information” manner.5 that is less quantifiable.3 Though from a high-level, statistical Furthermore, inasmuch as financial perspective, community banks seem to statements produced by many smaller be playing a somewhat smaller role in the companies may not necessarily conform to overall economy than was the case a couple “generally accepted accounting principles,” of decades ago, that decline is mainly a those companies’ lenders are going to need function of absorption by larger banks (as to consider a broader range of information opposed to poor performance or other (based on the banker’s knowledge of and negative attributes) and somewhat larger familiarity with the company and its role in regional banks have also been subject to the local business community), and a local Benjamin W. Baldwin practices with the same trend over time.6 Furthermore, community bank is naturally going to be in Robinson, Bradshaw & Hinson in Charlotte, community banks continue to be commercial N.C. His practice covers a broad range of a better position to engage in that exercise mainstays in rural and smaller metropolitan corporate finance and commercial transactions, than is a national bank. With a national with an emphasis on mergers and acquisitions, areas, and especially in the central United bank, the credit decision may well be made and senior and mezzanine lending. He can be States. Finally, community banks seem reached at [email protected]. by a loan officer in another office in a different to be meeting fairly well the challenges city.4

© 2012 Thomson Reuters DECEMBER 3, 2012 n VOLUME 18 n ISSUE 15 | 3 posed by the , including the not to “sweat the details” and trust that it need flexibility to do acquisitions or need to diversify their investments to avoid will be treated fairly in the future, even in the asset dispositions? The loan agreement overexposure to troubled businesses such as event of difficulty. But this approach would will contain negative covenants that those involving commercial real estate.7 not be advisable. The bank may be acquired restrict these and many other activities, by a bigger institution, or there may be other so the borrower will want to negotiate CONSIDERATIONS FOR AVOIDING personnel changes at the bank that alter the exceptions or “carve-outs” to these AND MANAGING DIFFICULTIES cast of characters, such that if and when the restrictions. The first draft of the loan As discussed above, if a small business is in borrower’s business takes a turn for the worse agreement will also probably include the position of selecting a bank for its credit and there is a need to obtain concessions broadly stated propositions in the needs, it should seriously consider going from the lender, the borrower is suddenly form of warranties and covenants with with a small or community bank instead of staring across the table at an unfamiliar face. which, as a technical matter, it may a larger or national bank with a “household This eventuality is certain to happen if the be difficult, if not impossible, for the name.” Once the selection of a bank has loan is moved to the bank’s “workout” group, borrower to comply. Thus, the borrower been made, how can the small business best where the borrower will likely encounter and its counsel should consider where navigate the still-challenging waters of the not only unfamiliar faces, but an altogether the borrower needs and then try to current economy? different and less accommodating style, negotiate for materiality or “material approach and attitude. adverse effect” qualifiers for those Avoiding difficulties provisions. Obviously, from a business perspective, the Community banks continue • Events of default. The events of default borrower will want to operate as efficiently are what trigger the lender’s remedies, and as profitably as it can by enhancing its to be commercial mainstays so they are of critical importance. The revenue stream and eliminating unnecessary in rural and smaller lender will likely not permit very much expense. But how can the company protect metropolitan areas. negotiation on these provisions, but the itself from a legal point of view as a small- borrower should at least try to (a) obtain business borrower? a grace period and/or an opportunity First, the borrower should develop a reliable Thus, what the documents say is of the to cure as many kinds of default as it system for the preparation of its financial utmost importance. Following are some can, and (b) eliminate any events of statements and then should be disciplined of the salient points for the small-business default based on the occurrence of an about using that system. The importance of borrower’s consideration. MAE or any other event as to which the having reliable financial statements from the • Financial covenants. The lender will lender deems itself to be insecure and loan application process through the final be keenly focused on the borrower’s uncertain. These kinds of defaults are repayment of the loan cannot be overstated. financial covenants. These covenants inherently vague and have the potential If the borrower does not have an experienced will be based on the borrower’s to put the borrower on uncertain ground 9 chief financial officer with an adequate staff projections, so the borrower should take in its relationship with the lender. to perform this function, the company will the time to prepare realistic projections want to hire an accounting firm to perform that will not paint too rosy a picture of this function on its behalf. If the lender A borrower should develop its future, likely performance. Then the a reliable system for the in question requires an annual audit by a borrower and the lender should work certified public accountant, such a system together in devising financial models preparation of its financial will certainly be required. that will yield financial covenants statements, and then it that will leave enough room on the should be disciplined about With a national bank, downside for the company to operate using that system. without triggering a default. Finally, the credit decision may the borrower and its counsel will want well be made by a loan to make sure the definitions used in • Ancillary documents. The loan agree- officer in another office the financial covenants work from a ment will be the centerpiece of the in a different city. technical point of view (that is, are documentation and will naturally attract the accounting concepts internally most of the attention of the parties, consistent, and is the timing of the but the borrower and its counsel will Second, the borrower should read and application of the covenants in sync want to be sure to read and negotiate attempt to negotiate its loan documents and with the timing of the company’s all of the ancillary documents (such as retain experienced loan counsel to assist it in performance, calculations and financial the security agreements, mortgages, doing so.8 The small-business borrower may reporting obligations)? pledge agreements, guaranties, etc.) as have a good relationship with the banker who • Carve-outs. Does the borrower envision well because oftentimes, some of the originated the loan and even the person who needing future financing for other most overreaching and broadly drafted will be administering the loan for the bank. purposes, such as for an equipment provisions may be found there. The loan Consequently, the borrower may be tempted purchase or a capital lease? Will it agreement will certainly provide that a

4 | WESTLAW JOURNAL n BANK & LENDER LIABILITY © 2012 Thomson Reuters default under an ancillary document to ensure that the lender’s right to deal make future borrowings under a line of will constitute a loan agreement default, directly with the borrower’s customers credit, the charging of default interest and so it is important that the ancillary arises only upon the occurrence of an late charges, and on the lender’s documents be consistent in all respects event of default. collateral, which itself could be disruptive, if with the terms of the loan agreement. (3) Ensure, in the case of a stock pledge not fatal, to the borrower’s business). • Collateral matters. The lender’s securing the loan, that the lender’s right How things unfold will depend on the underwriting for every deal is different to control the voting of the pledged severity of the problem and the borrower’s and, in some cases, for credit reasons, stock, and the right to payment of prospects. On one hand, the matter might it won’t be possible for the borrower to dividends, will arise only upon the be resolved with a relatively simple waiver succeed in all of these respects but if occurrence of an event of default. and/or amendment to the loan documents possible, the borrower will want to try The first draft of the loan documents to give the borrower time to work itself to: may well contemplate that the lender out of the difficulty (referred to below as an “amendment scenario”). On the other hand, in a more extreme case in which the The borrower and the lender should work together in devising business is more troubled and the loan financial models that will yield financial covenants that will relationship not salvageable, the default will leave enough room on the downside for the company to provide the lender with an opportunity to operate without triggering a default. exit the relationship and force the borrower “out of the bank” (referred to below as a “forbearance scenario”). (1) Avoid having the business owners would have these rights immediately In the case of an amendment scenario, give personal guaranties for the loans. and without a default, but this may not the borrower and its counsel will want to If the lender ultimately insists on having really be the intent of the lender, and it ensure that any and all past defaults have personal guaranties, the guarantor certainly is not in the best interests of been irrevocably waived and that the newly should try to provide that the lender the borrower. amended covenants are sufficiently loose will be required to recover first from Managing the difficulties to permit the borrower to operate without “business collateral” (i.e., assets of the once they arise restriction under the loan agreement under borrowing entity) before proceeding to the circumstances then foreseeable. The more recover on the guaranty or, better yet, The subject of loan workouts is one that precarious the borrower’s circumstances, provide that the lender’s recovery on the rightfully deserves its own article, and this is the more likely it will be that the lender guaranty will be limited to any collateral not the proper occasion in which to go into a will insist on other concessions (such as a pledged by the lender to secure the lot of detail, but following is a very general capital infusion to reduce the amount owed loan, such as the guarantor’s stock treatment of the subject. to the lender, higher amendment fees, etc.) owned in the borrower. In any event, In the first instance, the borrower would be so the borrower should be prepared for this any business owner or other guarantor well advised to anticipate issues before they possibility. will need to avoid agreeing to execute a become serious and be transparent with guaranty that requires the execution by the lender with respect to those issues. If his or her spouse since such a guarantor the company foresees that its performance Avoid having business would make the guarantors’ home (or is likely to suffer in the near term, it will be owners give personal any other assets held as “tenants by the easier and less expensive to negotiate a guaranties for loans. entirety”) available to the lender as a more routine financial covenant amendment source of recovery upon enforcement.10 on the front end before the default occurs, (2) Avoid assignment of third-party rather than to negotiate a more fulsome In the forbearance scenario, the lender contracts as collateral. These third- amendment and waiver (for example, one will probably have already decided to end party contracts may require consent in involving a payment default) down the road. the relationship. Thus, the lender’s draft the event of a collateral assignment, Doing so will also tend to encourage trust forbearance agreement will stipulate that which could delay or hamper the and confidence on the part of the lender. various defaults have occurred and will process of closing the transaction. Also, In this regard, the borrower should be provide that, notwithstanding such defaults, the security agreement providing for ready to explain the issues and its plans for the lender, for a stated period, will forbear this kind of lien will likely provide that addressing them. from exercising its remedies under the loan the lender may correspond with third- Once an event of default does occur under documents so long as no new events of party account debtors (i.e., customers a loan facility, the situation immediately default arise. This will afford the borrower of the business) to collect payment, and becomes very serious for the borrower time and a chance to refinance with another this kind of communication can be very because, at that point, the lender has at its lender. In this case the borrower will have little disruptive to the borrower’s business. disposal a wide array of remedies (including or no negotiating leverage. Consequently, as At a minimum, the borrower should try the termination of the borrower’s right to a practical matter, all the borrower will be

© 2012 Thomson Reuters DECEMBER 3, 2012 n VOLUME 18 n ISSUE 15 | 5 able to do (and it should certainly do all it 2 See The Importance of Community Mangi Eng. Pvt. v. Raytheon Engineers & can in this regard) is negotiate for as long a Banking: A Conversation with Chairman Ben Constructors, 213 F. Supp. 2d 20, 27 (Mass. 2002). Bernanke, Community Banking Connections, 9 forbearance period as is possible and ensure Fed. Reserve System, Third Quarter 2012, at 1. Note that courts tend to be averse to these that no other events of default occur under kinds of provisions. See Capitol Justice LLC v. 3 the loan documents. Allen N. Berger and F. Udell, Gregory, 2002. Bank N.A., 706 F. Supp. 2d 23 Small Business Credit Availability & Relationship (D.D.C. 2009); Langley v. Prudential Mortgage Lending: The Importance of Bank Organizational Capital Co., No. 07-cv-404-JMH, 2007 WL Structure, 112 Econ. J. 477 (2002), at 32-53. 4365423, at *4 (E.D. Ky. Dec. 12, 2007). The borrower would be well- 4 See generally John Martinez et al., Viability 10 As a general matter, a lender may secure a advised to anticipate issues of Community Banks in the Dallas Federal loan with a guaranty of a spouse of a business before they become serious. Reserve District: Evidence of Relationship & owner, but this principle is subject to the Equal Transactional Orientation, J. Applied Bus. Credit Opportunity Act, 15 U.S.C. §1691 (2012), Res., Second Quarter 2007, at 93-95. and its accompanying regulations, which prohibit a lender from requiring a spouse’s personal 5 CONCLUSION The Importance of Community Banking: guarantee as a condition for a commercial A Conversation with Chairman , It is anybody’s guess how long it will be (if loan to a business when the business or the supra note 2, at 10; Arthur E. Wilmarth Jr., Too Big businessperson qualifies for the loan. Violation ever) before we see conditions approaching to Fail, Too Few to Serve? The Potential Risks of of this rule could invalidate the guaranty. See, those of the “boom years” preceding the Nationwide Banks, 99 L. Rev. 957, 1039 (1992), e.g., Silverman v. Eastrich Multiple Investor Fund, at 65; William Keeton, The Role of Community 51 F.3d 28, 33 (3d Cir. 1995). However, the Great Recession. In the meantime, however, Banks in the U.S. Economy, Econ. Rev., Fed. the plight of the small-business borrower is regulations include a specific exception that Reserve Bank of Kansas City (2003), at 24-25. permits lenders to obtain a spouse’s signature by no means hopeless. Community banks 6 Keeton, supra note 5, at 18-20. where the lender reasonably believes the need to make loans in order to survive, thus signature is necessary “under applicable state 7 a business owner with a viable business and Id. at 20-26; The Importance of law to make the property being offered as security Community Banking: A Conversation with a willingness to be careful, disciplined and available to satisfy the debt in the event of Chairman Ben Bernanke, supra note 2, at 10. default.” 12 C.F.R. § 202.7(d)(2), (d)(4). The FDIC open in its dealings with its lender should be has explained that this exception would apply 8 The business should not take any comfort in able to survive until the next upturn. WJ where spouses hold property by tenants in the the possibility that an imbalance of negotiating entirety and where the lender relies on the jointly power could influence a court to invalidate held property in extending credit. Financial NOTES the agreement as a contract of adhesion. This Institution Letters, Fed. Deposit Ins. Corp. (Jan. 13, principle is seldom applied to contracts between 1 Edward Gibbon, The History of the Decline & 2004), available at http://www.fdic.gov/news/ businesses. See PPM Fin. v. Norandal USA, 297 F. Fall of the Roman Empire, Vol. 12, Chap. LXVIII. news/financial/2004/fil0604a.html#ft7. Supp. 2d 1072 (N.D. Ill. 2004); Mistry Prabhudas

WESTLAW JOURNAL DERIVATIVES

Losses stemming from complex derivatives investments linked to subprime mortgages and other debt instruments have led to a number of major lawsuits across the nation involving billions of dollars and many new important legal issues. This newsletter reviews cutting-edge cases, informing you of the most crucial developments in derivatives litigation nationwide. You’ll receive detailed, continual coverage of litigation involving fiduciary duties, mortgage-backed securities, collateralized debt obligations, swaps, options, futures, and funds.

Call your West representative for more information about our print and online subscription packages, or call 800.328.9352 to subscribe.

6 | WESTLAW JOURNAL n BANK & LENDER LIABILITY © 2012 Thomson Reuters