What is a Bank Forbearance Letter and Why Did I Receive It?
Business owners don’t always understand what it means when they receive a Forbearance Letter from their financial institution. This article outlines why these letters are received, what they mean, what you should expect if you received one, and what actions you should take.
Note that our comments here are general, and you should receive independent legal advice.
A Forbearance Letter from your financial institution is a STRONG indication the institution is gravely concerned about continuing to do business with you.
At its simplest level – it is a letter from the bank saying: If you agree to take these actions we will “forbear” or agree (for now) to not take action and demand immediate repayment or realize upon our collateral.
It goes without saying, this is a serious situation.
Why Did I Receive a Forbearance Letter?
The answer to this is simple: you didn’t meet the bank’s performance expectations either in terms of financial results, or adherence to your credit facility terms and conditions. It is not necessary to have missed payments to have a bank send you such a letter. What is the case, however, is something has happened that has made your financial institution determine that your file is now at a risk level where they have lost confidence in the business relationship.
Some examples (but no means a comprehensive list) of items that can trigger this action on the part of the financial institution include:
- Material change in financial performance of any kind – revenues, expenses, cash flow, excess withdrawals from the business by way of bonuses or dividends, excess/risky capital investment, and more. All these items—even if not covered by a specific clause in your loan agreement—are effectively covered by way of a clause in lending agreements that is usually labelled “Material Adverse Change.”
- Missing bank operating covenants – when your credit facilities were set up, you would have agreed to maintain a certain level of financial performance and certain operating ratios – liquidity, debt to equity, compliance with statutory (government) payments, and more. Check your contract and talk with your accountant; you are likely reporting on these either monthly or quarterly, and thus you should be aware when you’re not in compliance.
- Missing, deferring, or otherwise altering payments to be made to the financial institution.
- Inappropriate use of funds in the eye of the financial institution.
- Missing monthly, quarterly, or annual reporting requirements – such as interim financial statements, borrowing base reports, accounts receivable/accounts payable listings, tax and other corporate filings, provision of annual professionally prepared financial statements, etc. Most of these items will be in your loan agreement as requirements.
What Should I Do Upon Receipt?
We could go into a long list of technical items in this regard, and again we (strongly) suggest you get independent legal advice right away, but simply put:
- In the short term, as a practical matter, you are most likely going to have to comply with the bank’s request on the forbearance letter. Of course, you should have conversations with them to ensure there are no misunderstandings, and to determine if there’s some room for negotiation, but failure to comply will likely result in the institution considering taking further action.
- Begin looking for a new lender. Not in a while, not later, not in low priority. Start now. Get an advisor to help you, if necessary. While these situations are not necessarily unresolvable, as a practical matter, these situations are very wearing on even long-term, established relationships. Thus, at a minimum, you need to have a “plan B.”
The reason for our recommendation in item # 2 above is typically once you get into a position where financial institution has taken these actions, there’s what we would call “lender fatigue.” Cutting straight to the point, that means they’re getting tired and less patient with your file. They want some sort of resolution to their concerns, and often in their mind the best resolution is for you to find a new home for your financial needs until such time as your business is able to demonstrate performance metrics that are in their comfort zone.
What Should I Expect in the Forbearance Letter?
Here’s a few things you should expect:
- Fees – the financial institution is going to be monitoring your accounts more closely, and they want to get paid for that monitoring. So, expect additional fees every month, and possibly even some up front.
- Reduced Access to Funding – In many cases, the financial institution will reduce the limits available on your operating line.
- Requests for additional collateral, additional reporting, and more.
- Your Account Manager may have no say – In practice, we’ve seen clients say, hey, my account manager says everything is ok. Truth is, everything is not ok. At this point you are, or will be shortly, in the hands of the ‘Special Credit’ group, by whatever name. The mandate of the special credit group in a financial institution is to solve their problem – not to solve your problems. To them, their problem is – getting their money back or reducing risk by some other means on your file, which they now consider outside their risk comfort zone.
- A detailed timeline – The financial institution is going to put in some detailed timelines for action on your part – which may mean reporting deadlines, deadlines for reducing what you owe, or even a timeline for you to find financing elsewhere. The most important thing in this regard to know is – they’re not kidding. They mean it.
- New contacts for dealing with your accounts at the financial institution.
I’ve Heard from Others that Financial Institutions Just Keep Extending These All The Time. So Why Worry?
It is the case that financial institutions will, at their own discretion, extend forbearance periods. Here’s some things to keep in mind in that regard.
- Doing so is entirely at the discretion of the financial institution. Don’t count on it happening.
- They’ll extend – until they won’t. Then your situation gets worse very quickly – including demands for repayment, potentially receivership applications to the courts, etc. That is why you cannot downplay the importance of the forbearance letter.
- Don’t think you can out-lawyer the financial institution. The simplest way to put it – they don’t care – at all – if you think you’ve hired the craftiest lawyer from the biggest law firm in your city. Financial institutions can afford, and often employ, excellent legal counsel as well. Enough said.
How Can Accord Help?
If you receive a forbearance letter, you’re likely to need a new lender that can handle all your financing requirements. If you no longer meet the criteria of your existing financial institution, it may well be the case you won’t meet the criteria at others.
Accord has decades of experience in providing clients in these situations with financing, understanding the timelines, and being able to act quickly. We are uniquely able to handle, via various types of facilities, for businesses large and small, your working capital and capital asset needs, with the ability to provide both term and revolving facilities customized to your needs – giving you the best chance to succeed.
Contact one of our professionals today.
US nomenclature and Canadian nomenclature vary. Do consult legal counsel. Nomenclature and actions taken may vary depending on your primary product with the financial institution i.e. whether it is primarily working capital or commercial real estate financing, etc.