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Dodging Leasing's Grim Reaper: Navigating A Payment Default
By: George A. Parker
In her third Harry Potter novel, ‘The Prisoner of Azkaban’, J.K. Rowling
introduces a silent mysterious clan of spiny, cloaked creatures capable of
siphoning off happiness and all good thoughts from anyone in their presence.
Extended exposure to these scabby grim reapers, called Dementors, resulted in
madness or death for even the most joyful individuals. In the world of equipment
leasing, the closest things to Dementors are lessors who lose confidence in
defaulting lessees. If your firm faces imminent payment default, there are
several actions you can take to improve your chances of navigating this
unfortunate situation.
As in most situations that can spin out of control, effective communication
between lessee and lessor is extremely important. At the start of the lease, you
are primarily concerned with obtaining flexible, cost effective equipment
financing. The lessor’s primarily objective is to originate a profitable lease
transaction. Once a payment default is in the offing, the primary concerns of
both parties change. You now focus on taking actions to guarantee survival,
while the lessor seeks protection and recovery of the lease investment. That
being said, it is very important that you appreciate the lessor’s concerns when
you are planning a recovery and when communicating with the lessor.
As a first step, you should notify the lessor when a payment default seems
unavoidable. No one wants to be blindsided by an unexplained delinquency as the
first indication of a problem. Most lessors will appreciate your forthright
candor in alerting them. Be prepared to give an explanation of the cause of the
payment problem, a detailed account of your company’s financial condition, and
your plan to correct the situation. If you are able to generate financial
projections, they will prove helpful in convincing the lessor to allow you to
execute your recovery plan.
Try to stay in compliance with all other terms and conditions of the lease. Most
lessors will appreciate your diligence in adhering to the other lease
provisions, especially those requiring periodic financial information. Frequent
updates will give the lessor confidence that you are cooperating and working
with him.
If appropriate, propose a rent reduction in an amount and for a term that will
give you an opportunity to recover. Remember, the lessor is primarily interested
in how the lease will be repaid and how he will realize the benefit of the
bargain negotiated at the outset of the lease. Secondly, he is concerned about
his collateral position. Now that a problem has surfaced, he will want
protection from a loss on the transaction if your company fails or if equipment
repossession becomes necessary. Offer cash flow projections to show how your
firm will recover and when you will be able to resume making full rent payments.
If possible, be prepared to offer credit enhancements and an increase in the
lease rate to entice the lessor to accommodate you. Credit enhancements are
intended to make the lessor feel more secure that he will recover his
investment. You may offer additional collateral, a personal guarantee, a pledge
of stock or other securities as credit enhancements. To compensate the lessor
for the added risk of the defaulted transaction offer a rate adjustment. A rate
adjustment might be accomplished by extending the lease term, stepping up the
rental after resuming payments, or issuing warrants to purchase stock in your
firm.
If you can’t determine the likely duration of the default, you should request a
relatively short period of lower payments until you can better evaluated the
situation. Be prepared to negotiate the length of the period, the amount of the
reduced payments and credit enhancements.
If the default looks hopelessly incurable, you may proceed in number of ways.
You can: 1) offer to return the equipment to the lessor and pay the lease
balance over an extended time; 2) offer to find a suitable sublease arrangement
for the equipment; or 3) see whether the lessor will allow you to keep the
equipment and make reduced payments on a month to month basis until you or the
lessor can re-market the equipment. If all else fails in working out an
acceptable solution with the lessor, it may be time for you to get a skilled
attorney involved.
If you are able to reach a mutually acceptable solution, some lessors might
require a formal forbearance agreement covering the new understanding. These
agreements can take the form of an informal letter of understanding or an
extensive legal agreement. The agreement form may depend on the size of the
transaction and the preference of the lessor. Most lessors ultimately expect to
be compensated for forbearing via a one-time forbearance charge, penalty rental
payments or other means. Also, expect to reimburse the lessor for any legal
expenses incurred to document a forbearance arrangement.
Most lessors don’t want to take legal action or cause customers hardships that
will interfere with recovering their lease investment. This preference is
weighted against the prospect of realizing a larger eventual loss by allowing
the customer to retain the equipment. It is usually more advantageous for
lessors to work with customers if the situation seems salvageable. The less
desirable alternative is to go through an expensive and lengthy legal process to
foreclose on the lease and attempt to repossess the equipment. Many large
lessors have individuals in-house that specialize in managing ‘work out’
transactions. These specialists usually have had experience with many lessee
payment defaults. Their mandate is to get the quickest recapture of the lease
investment possible, subject to protecting the investment. If it becomes clear
at any time that the lessor plans to take legal action against your firm rather
than try to work with you to realize a mutually acceptable solution, get a
skilled attorney involved. The attorney can provide you with your legal
alternatives and may be able to assist you in negotiating with the lessor.
When your company’s fortunes take a turn for the worst and you have to modify
payment terms with your leasing company and other creditors, don’t panic. This
is the time to redouble your efforts and to draw up plans to remedy the
situation. Early aggressive actions by you to develop solutions will pay great
dividends. Make every effort to create and propose plans mutually acceptable to
all parties. However, always be prepared seek legal help should grim reapers or
Dementors show up at your door.
About the Author:
George Parker is a Director and Executive Vice President of Leasing Technologies
International, Inc. (“LTI”). Headquartered in Wilton, CT, LTI is a leasing firm
specializing nationally in equipment financing programs for emerging growth and
later-stage, venture capital backed companies. More information about LTI is
available at: www.ltileasing.com. |
