Transcript of CFO Business Intelligence Briefing with Reed Smith
Permit me to introduce you to today’s business intelligence briefing series presenter, Gerard DiFiori, Esquire, a partner at Reed Smith. I never call him Gerard but that’s his formal name. Jerry has been a partner since 1998 at Reed Smith and is currently the chairman of the firm’s securities review committee. Previously, Jerry spent three years as a firm, wide Chair of the firm’s corporate and securities group.
Jerry started his legal career at the US Securities Exchange Commission, the SEC in Washington DC. He brings 30 years of experience to each new engagement, focusing his practice on public and private securities offerings, mergers and acquisitions, joint ventures corporate governance, corporate compliance and corporate transactional matters. Jerry routinely works with senior management and private equity firms and their portfolio companies in reaching strategic goals. Assisting companies at all stages of the growth cycle, from early stage private companies to mature publicly traded companies.
Jerry splits his time between New York and Hong Kong, to hell of a commute, handling domestic and cross border transactions in many industries including emerging technology, food and beverage, consumer products, energy and renewable energy, life sciences, real estate and manufacturing and distribution.
During his career, Jerry has handled capital markets and M&A matters having an aggregate transaction value in excess of $20 billion.
Jerry’s clients frequently praise him and his unique ability to think like a CEO or a CFO as the key factor distinguishing him from other lawyers. Jerry examines companies through the lens of a C-suite executive combining his 30 years of corporate legal knowledge and experience to devise creative and effective solutions so his clients can achieve their strategic goals. His insight and experience enables him to successfully counsel businesses through all stages of their growth and development.
Now a little bit about Jerry’s firm, Reed Smith. Reed Smith is a leading international law firm with more than 1700 lawyers in 30 offices throughout the United States, Europe and the Middle East as well as Asia. Today, Jerry will lead us in a discussion entitled contracts, agreements and force majeure. The CFO and challenges of COVID-19. It gives me great pleasure to introduce you to my friend today’s business intelligence briefing series presenter, Gerard DiFiori, Esquire, partner at Reed Smith.
Before I turn the mic over to Jerry, we do have our first polling question. Lawrence, if you can bring up the first polling question. Thank you very much. So the first question I’ll ask and you’ll have 30 seconds to respond. Great, some of you are jumping on it already. Have you undergone a review of all of your commercial agreements since the start of the pandemic? So we’re going to hold that open for another 30 seconds or so let everyone respond. And then I’ll ask Jerry to take the mic.
By the way, while all of you are responding, I’ll let you know that there are 72 CFOs and other executives online on this presentation. We’re happy to have you all here. Okay, we’re going to wrap this up in a moment. Let’s give it another few moments if anyone else would like to respond. You can respond whether you’re interested in CPE credits are not, but those of you who respond and are interested in CPEs will get them.
Okay, great. So we are closing the poll question. Thank you very much. With that, Jerry DiFiori why don’t take over for us. Thanks very much for permitting us to help you share your thoughts today.
Thanks, Andy. Thanks to you and to CFO Studio for hosting this event. It’s great that in today’s world, we have technology tools like this will allow us to still be together and have a discussion in a venue that allows us to share ideas.
Certainly, it goes without saying that we are in sort of uncharted water at the moment. I live here in Hoboken and right in New York City. New York City is unfortunately leading the charge in terms of the number of cases and the United States has just eclipsed China in terms of the number of positive cases of COVID-19. Because I’ve had a lot of experience in Asia, I work closely with folks in our Hong Kong office and other parts of Asia and was doing a deal cross border merchant with them earlier in the year.
As soon as things broke out in China, many of the countries over there, including Hong Kong and Korea, clamped down extremely aggressively and extremely quickly, because they had perhaps more prior experience. And I fear that the United States isn’t really taking advantage of the eight-week advance notice that something’s coming when they could. I know the government is trying but it is a little bit difficult to see that.
So more importantly than anything else, I do want to make sure that everyone does what they can do to be safe and I hope that everyone is safe. Here in Hoboken we have about 60 cases of people testing positive and I have several friends and acquaintances who are in that universe.
So, now more importantly than anything we will learn today is important for us to try and pay attention to what the experts are telling us and try and keep our wits about us at a time when things might get a little bit more difficult than they are even at the moment. So, with that sort of introduction let’s turn to the topic of the day, which is … the goal of this presentation is to try and give people some practical guidance on the implications of force majeure, or some other contract principles in their commercial agreements, to give people some thoughts and ideas on how to deal with them.
Hopefully, I’ve got control of the screen. Let’s see here. Great. So we’re just going to start out with a discussion of what exactly is a force majeure clause. People have knocked the word around. A lot of you are not lawyers, probably most of you are not lawyers. So I want to just make sure we’re starting sort of from the beginning.
So a force majeure clause is a clause that may be invoked to excuse or delay performance of an obligation to a part of your contract that has a clause. This type of clause is found in various types of commercial agreements, supply agreements, leases, construction contracts, services, agreements and other commercial agreements, including financing agreements.
Somebody on the chat has asked if the slides will be available, and the answer is, happy to accept an email from anyone in the group who would like me to send them the slides. In addition to that, our firm has published a series of bulletins. Some of them are very targeted on specific issues, and some of them are more broadly targeted. So those things will be available. So just want to point that out.
Also, it’s worth noting that not every contract has this clause in it. In fact, I’ve been practicing law for 35 years. And there are certain categories of contracts where you might see them, but it’s not everywhere. So don’t assume that every contract that you has, has one.
I was dealing with a transaction involving some folks in Florida last week. And we were talking about what was going on in the world. And I mentioned that a lot of people were asking questions about these clauses. And the lawyer in Florida was saying that because there’s been many hurricanes and other things of that nature in that part of United States, force majeure clauses are actually quite prevalent and literally found in many, many, many contracts. It’s really not the case of up here, so I just wanted to point that out.
Down below in the slide is a sample force majeure clause. It says if either party to this lease shall be delayed or prevented from the performance of any obligation through no fault of their own by reason of labor disputes, inability to procure materials, failure of utility service, restrict governmental laws or regulations, riots, insurrection, war, acts of God or other similar causes beyond the control of such party, the performance of such obligation shall be excused for a term of the delay.
So that’s a basic clause. The other thing, that’s an important overriding principle, and I’m going to start, generally here, sort of at the top of the funnel, and then work our way down the funnel as the presentation proceeds. I’m going to be discussing New York law. But the law of other states and how courts in another state might interpret these clauses may not necessarily be the same. So if you are undergoing a review of your contracts, it’s very important to understand the impact of your state’s law.
Somebody posed a question about the UCC, we will get to that later in the presentation. The UCC in connection only with the sale of goods, does have a principle that operates a bit like force majeure. We’ll get to that about two thirds of the way into the presentation. So let’s get to the next slide here.
Okay, so again, in trying to start from the generic at the top of the funnel, it’s important to understand how courts are actually interpreting contracts, the rule of judicial construction, so very important to understand that as a preliminary matter, courts don’t read language into a contract that isn’t there. It’s just a fundamental rule.
And so here’s a little piece from a New York case. When party set down their agreement in a clear complete document, the writing, should this rule be enforced according to its terms. In other words, our primary objective, our in that context means a court’s primary objective, is to give effect to the intent of the parties as revealed by the language they chose to use. It’s very important and in the context of this discussion, I’ll explain why it’s important.
So that talks about how a court interprets the language that’s in a contract in the case where there’s a dispute over the words of the contract, one of the things that can often come up is one party or the other, seeking to try and bring into evidence in the dispute forum, information that is outside of the four corners of the document. Sometimes, the word extrinsic is used to describe that. So there’s a rule. And this is a common law rule, but it’s applicable in all states and in New York. Basically, the parole evidence rule, in essence says that parole evidence, evidence outside the four corners of the document is admissible only if a court finds an ambiguity in the contract.
So this is in essence a restatement of the general rule about the courts not reading into things that aren’t in the agreement. So extrinsic evidence is admissible … is inadmissible, excuse me to alter or edit provision to a written agreement. The rationale there as stated on the slide, it’s to give stability to commercial transactions and safeguard against … It’s the idea of respecting the primacy of contracts. And we need a system where people can respect that what’s on the paper reflects the agreement that they’ve made.
So I thought I’d give a quick example of how there might be an exception to the parol evidence rule that might be relevant in these types of circumstances. So in our example, we have two parties that are negotiating some type of a supply contract. And the supplier is in his dialog saying, he thinks the word epidemic should be considered within the meaning of act of God, and he wants to put the word epidemic in the contract. So the question is, would the parole evidence rule act as a bar from the court, accepting its extrinsic evidence, to allow that evidence to come in and shape the understanding of the parties as to whether or not the word epidemic was somehow within the meaning of the phrase act of God. And the phrase act of God is oftentimes in force majeure clauses, that’s why I chose this example.
So the bottom line is, the phrase act of God might be viewed as being an ambiguous phrase, and the court might consider extrinsic evidence as to what is or isn’t meant by it. So let’s talk about sort of mechanically how this would work. So the suppliers position would be stronger if his negotiation points were memorialized either in drafts of the contract itself or in emails that were advancing the point. And if those emails or communications themselves were really clear.
So if there was an email, like this is like the smoking gun email, customer emails the supplier and says, we consider pandemics to be included within the definition of act of God. I’m sorry, the customer says that to the supplier because it’s in the dialogue, excuse me. So the customer is saying, there’s no need to include those words in the contract itself. So if you have an email like that, it’s very protective of the suppliers rights. You would include all of that detail in the complaint or in the dialogue. It would at least be able to get that issue in front of the court.
Also, at this time, it makes sense to point out another general principle of contract construction or judicial interpretation of contracts. And that is the general rule that courts will construe an ambiguity in a contract against the person that drafted it. So if in this instance, the supplier and the customer were negotiating a form contract that had been supplied by the customer, the sort of bias goes against the customer in that instance.
Okay, let’s go to the next slide. So, when we’re doing an analysis of a party’s obligations under a contract, this is sort of a five layer approach, sort of a top down approach. The first question to be answered is whether or not the contract contains a force majeure clause at all. If it does contain such a clause, then what’s the exact scope of the coverage of that clause? What’s the language? The next element that would be considered is, is the event or circumstance that the party is relying upon to try and excuse his performance, actually outside of their control? Can the affected party perform via some alternative means? And has the invoking party shown that it complied with any notice requirements that may have been in the contract?
So we’re going to take these one at a time and we’re going to be drilling down at various levels of granularity on some of these points. And then I’ll try and get some examples as we proceed through.
So at the top of the funnel, if the contract doesn’t contain a force majeure clause, clearly the defense can’t be invoked. And what may be a possibility is the doctrine of impossibility performance, and or commercial impracticability. And those doctrines I’m going to discuss later. The commercial impracticability doctrine is the UCC doctrine that is only available in the case of sales of goods under Article 2 of the UCC. The impossibility performance doctrine is common law doctrine that might be available under other circumstances.
At the end of the day, like everything else, these things present their own challenges, and they’re all about getting the details right, and having the ability to support facts that might enable you to raise a defense.
Jerry, we’re going to put up our next polling question. This question is, roughly what percentage of your important contracts include a force majeure provision? Anyone can answer this question. Those of you who wish to receive CPE credits, please answer this so we can qualify you, but anybody can answer. And we’ll keep this open for another 25 seconds or so.
And just for everybody’s information, the first question that I asked earlier; have you undergone review of all of your commercial agreements since the start of the pandemic? The answers, 29% of those who answered said yes, 54% of those who answered said no. And 17% of those who answered were unsure. The question was, have you undergone review of all of your commercial agreements since the start of the pandemic? 29% said yes, 54% said no, 17% were unsure. All right, we’re … let’s see. So we got a roughly what percentage of your important contracts include a force majeure provision? And over 75% of their contracts was answered by 25% of the folks. We’ll talk more about that later. Jerry, back to you.
Thank you, Andy. Okay, so this is sort of the second layer of our layer cake. What is the exact language in the contract? This is one of those situations where, unfortunately, you have sometimes a situation where there’s conflict between the lawyers in the room and the business people in the room. Sometimes the lawyers are viewed as being overly detail oriented, nitpicking, anal retentive. Use whatever phrase you like. And sometimes that’s true. I’m not going to deny that at all. However, in cases like this, words matter, details matter.
And so the point is that courts interpret these types of clauses very, very narrowly. And so if the magic words that you’re hoping to see in your contract aren’t there, it may limit your ability to use the force majeure clause to delay or excuse your performance under specific agreement.
Again, this gets back to fundamental concepts I mentioned a little earlier, courts respect the risk allocation decisions that parties make in contracts, with respect to the risks that have been identified. Risks that have not been identified fall where they may, they just fall where they may. And that can be a big gap in some instances. Or they can be gap where people just think something means something that it doesn’t mean. And we’ll get to that when we’ll talk about some examples.
So only specified or specifically identified events or factors are going to be given effect to delay or excuse performance. So the exact words that are in the contract really do matter. So this next slide contains examples of typical clauses or words you might find in various force majeure clauses. They might reference things like fire, floods, earthquakes, hurricanes. They might reference declaration of war, hostilities, terrorist acts or civil unrest. That particular grouping of words, is actually quite commonly negotiated in underwriting agreements, agreements between companies and investment banks for the sale of bonds or stock that are being sold in either public or private transactions to clients.
And so, in my personal experience in doing a lot of capital markets work, there can be an immense amount of wrangling over what in underwriting agreement is called a market out clause, but it actually covers a lot more things because it’s a form of a force majeure clause.
Other examples of language you might see depending upon the type of contract is referencing to labor strikes, boycotts, work slow downs. Other language that might be especially useful in today’s environment is referencing governmental actions, expropriation, eminent domain, condemnation, changes in laws or regulations, orders and embargoes. And later on in the presentation, we’ll talk a little bit about some of that stuff in greater detail. And then, words about epidemics, pandemics, plagues outbreaks or quarantines, acts of God or acts beyond the reasonable control of the parties.
So we’re going to try and drill down into some of these and give you some more clarity. The words act of God are not based upon courts traditional thinking, viewed as including pandemics. So pandemics are not viewed as being part of acts of God. And there’s no New York cases to support that. I’m not suggesting that people aren’t going to argue that a pandemic and this pandemic that we’re in is still an act of God, and people who are on that side of the fence should absolutely be making that argument. I’m not suggesting that they shouldn’t do that. It’s just that using current court precedent as an example, I don’t … if courts act and treat it the same way they did in the past, it’s probably not a winner.
Let’s go to the next. I somehow lost my spot there. Bear with me. Just make sure that this is … Okay. Very good.
So, let’s talk about language like epidemic or pandemic. You know, in my personal experience in 35 years of practice, I’ve literally never seen these words in a force majeure clause. It doesn’t mean that they’re not out there, but I haven’t seen them. As they said before, there isn’t any New York case, that concludes that a pandemic is an act of God, such that where the court has a clause in front of it with the words act of God, they can read in the words pandemic, that hasn’t been done. Cases in other jurisdictions sort of hold a similarly narrow view. That unless the contingency that the party is claiming is actually right there in the contract, then the courts are not considering that thing to be an act of God.
Let’s talk about some language that could provide more meaningful coverage for some companies in this environment. And that would be referencing governmental embargo intervention or other circumstances. So as people probably know, many of the states, New York, New Jersey, I believe Connecticut also have issued decrees that are limiting the activities of non essential businesses. And at the end of the slide presentation, I actually have reproduced some of these decrees in full wording. And so there’s the possibility that this type of either partial or complete business cessation by a governmental decree could be used as the mechanism to provide a defense to delay or prevent performance of a party. But I do want to caution people on this that this is not like a blanket whitewashing of everything. So let’s use the example of a drywall supplier.
Now, in today’s environment, construction is probably deemed essential. So I admit that using drywall supplier isn’t the best example. But it’s still one that you can understand. So if you have a non essential business and it’s a drywall supplier, and if the drywall supplier had a customer contract where it has to deliver drywall to its customer, and it’s shut down as a non essential business, it can’t deliver. So it could use this embargo as a basis to temporarily not deliver its products to its customers. For sure.
However, it can’t use this embargo to avoid paying its rent, or its utility bills, or other things that have absolutely nothing to do with what its essential product or services. And so, I want people to understand that because I do think that this is a possibility sometimes over generalizing the impact of things and that’s important for people to understand.
If you have a force majeure clause that has a language like other acts beyond the reasonable control of the parties, this catch all language, this is not that prevalent, sometimes it’s there, sometimes it’s not. But that language would certainly be good, it would give you some room for argument.
So, the next layer down in the layer cake is the event that’s being relied upon by the party actually outside of their control. So, using the drywall example and things like that this shouldn’t be that difficult to show. It’s not like the drywall supplier caused the pandemic. But they do need to be able to show that the event was outside of their control. The more specific the language is in the contract that relates to the basis for why the party isn’t able to perform whether it’s because this specific pandemic language or government shut that language, all the better.
Let’s go to the next slide. So, the next layer in the cake is, can a party perform via some alternate means. So the party has to be able to show that if they’re relying on force majeure clause, there was no other way they could have done what they needed to do. So I’m using as an example, a New York case involving the supply of electricity. And in that contract, there was a baseline agreement, in which a certain amount of electricity had to be purchased. Hurricane Sandy flooded the building, and the building tenants were unable to occupy the building. And the utility sued the building owner for failure to buy the electricity up to the baseline amount. And the owner said, “Well, I couldn’t because the tenants weren’t there. I had nobody to supply the electricity to, I couldn’t sell it to anybody.” And the owner tried to claim force majeure and move for a motion to dismiss. The court denied the motion siting that it was the owner’s failure to be able to prove that he couldn’t have gotten the tenants in there sooner and gotten them into their space sooner.
So, it sounds like a bit of a harsh a result. But the courts again, they’re very strict about the way they view this stuff. So the court says the motion to dismiss should be denied because the defendant hasn’t shown that the force majeure clause would have been an absolute defense. The defendant didn’t establish as a matter of law that his failure to meet the baseline was unavoidable result of the storm and that it was beyond his control. So that just kind of gives you a flavor of how tough winning these cases could be if you ended up actually having to litigate something.
The party has to demonstrate its efforts to perform its duties despite the occurrence of the event. So, here’s another site from a case that basically says that, unless the injunction or governmental order renders the performance impossible, the party that’s seeking to invoke the defense has to show that they couldn’t have done it any other way, in essence.
So there’s also this notion of mitigation of damages. And the idea that you just have to do everything in your power in order to show that you’re doing everything to perform as you would have been able to perform under the contract absent the occurrence of the force majeure event.
You can’t use force majeure events, or force majeure clause simply because it would cost you more money to perform or be more difficult to perform as opposed to being completely impossible.
Another element that’s important in trying to invoke a force majeure clause is notice requirements. It would be common either in the contract generally, or in the force majeure provision itself, that in order for a party to invoke the clause to seek to delay or reduce their performance obligation, that they’ve actually followed all of the notice and procedural requirements that the clause itself calls for. And this is just common sense. And the idea that people have a right to expect the performance that a contract provides for. So if parties fail to give notice, it’s likely going to be making impossible for a defense to be raised.
So, at the bottom part of the slide, here’s a sample notice provision. If the prevention occasioned by such condition should continue for 30 more days. Either a distributor or a customer may terminate this agreement without further liability upon written notice to the other not later such and such date. This happens to be a provision that would actually allow complete termination of the contract. Not every clause is obviously going to work that way, some clauses, which simply delay performance, or there would be other provisions that would have to be followed.
So, that’s a basic high level discussion of how force majeure works. I’m going to shift gears a little bit now and talk about some of the other doctrines that are available in the cases where the contract itself doesn’t contain a force majeure clause.
As I talked about in the earlier part of the discussion, you sort of have a fork in the road here. You have contracts that relate to the sale of goods, those contracts are governed by Article 2 of the UCC. And you have contracts of every other type. So, in contracts of every other type, you’re dealing with common law principles of this doctrine of impossibility performance. And in contracts involving the sale of goods, you’ve got a 2-615 of the UCC.
Now, I do want to also point out that if you have a contract involving the sale of goods, and it has a force majeure clause in it, then you’re probably not relying on 2-615 unless that clause doesn’t give you any help at all, that force majeure clause, so I want to try and sort of position that.
So when we’re talking about the defensive impossibility, this is a common law defense. And the basic standard for proving this defense is that there has to be destruction of the subject matter of the contract or the means of performance must make the performance of the contract objectively impossible. So I don’t know why I was fixated on drywall when I put this presentation together, but here’s another drywall example.
Here in this example I’m saying this is not a drywall supplier. This is a drywall contractor and they are basically providing a service to install drywall. So an example where the defensive impossibility would be useful is where the contractor is building a house … He’s a subcontractor to a general contractor building a house in, I don’t know, Spring Lake. And he’s about to begin installing the drywall, he goes to the work site, the house has been hit by lightning and is burned down, or destroyed by a tornado.
So in that instance, the subject matter of the contract is gone. And what’s also required is that the event that causes the impossibility to rise has to be something that sort of could not have been forseen or guarded against within the contract. So in a presumably in your average everyday drywall installation contract, you don’t have things that talk about lightning or that type of stuff, although you might actually have provisions that deal with risk of loss or with the other destruction. So I wouldn’t say it’s outside of the scope, but we’re just for purposes for this discussion, saying it works that way.
So again, financial difficulty or hardship alone isn’t enough to satisfy the impossibilities defense. And the person who’s making the claim, can’t say that the impossibility is personal to himself and doesn’t relate to the nature of the act to be performed. So, for example, it would be different if in this case, with the house in Spring Lake, the drywalls … he could say, well, this is a supply chain problem, I can’t get the supply because of some other act that’s outside of my control, and probably it wouldn’t work there.
So I’m going to then, from this point shift to this doctrine of commercial impracticability. Again, this is limited to a context involving the sale of goods. As most of you probably know, the UCC is a basically uniform statute, which has been adopted by I believe, all 50 states. They’re all some slight differences between provisions in the UCC in New York, New Jersey, Connecticut, wherever. But as a general rule, what I’m saying is broadly applicable in most jurisdictions. So, this commercial impracticability defense can be used by a seller of goods where there’s no force majeure clause in the agreement, or where the coverage of the clause doesn’t cover the event in question.
So the idea is that this provision is supposed to allocate risks arising from an event that neither party contemplated, nor allocated. So it’s a three part test to determine if the defense is available to the non performing seller. Number one, the seller must not have assumed the risk of that unknown contingency. The non occurrence of that contingency must have been a basic assumption underlying the contract and the occurrence of the contingency must have made The performance commercially impracticable.
I do point out that we have published a number of bulletins which if anyone is interested in them, and or the slides, we can provide them. These bulletins cover a broad array of topics beyond just force majeure, it covers things like insurance coverage, employment issues, DNO. It’s actually a very, very broad array of things that are obviously implicated in the environment that we are in. So I’m happy to share those for those who might have an interest.
Jerry, we’ve got another poll question.
Here’s the question, folks. If you’re applying for CPE, you must answer you don’t have to be applying for CPE in order to answer the question, we’re curious to get your opinions. Has your company been impacted by a government shutdown order? We leave the question open for another 30 seconds or so. Has your company have been impacted by a government shutdown order.
The previous question, roughly what percentage of your important contracts include a force majeure provision? Interestingly enough, 42% of the respondents said they were not sure. The next largest group was 25% of the respondents said that more than three quarters of their contracts included force majeure. Very interesting.
Okay, we’re going to close this down. Has your company been impacted by government shutdown? 66% of the respondents said yes, not surprisingly. Jerry, take it away.
Thank you. All right, on to the next slide we go.
So let’s have a discussion about credit facilities. A lot of companies have credit facilities. A lot of those credit facilities may or may not have force majeure provisions in them. If you’ve been listening on the news, you’ve heard about companies that have drawn down. I believe, Boeing drew down $14 billion from its credit facilities a couple of weeks ago, maybe a week and a half ago. A lot of companies I think, have done so or are thinking about doing so.
And I just sort of in this context, want to point out some specific issues that may be worth thinking about. First of all, it’s great to say give me the money now, and we’ll ask questions later. But banks may or may not like that approach. In many cases, credit facilities require that in connection with a draw down or borrowing that there be a refresh or bring down as it might be called in the reps and warranties in the contract.
Depending upon how that credit facilities is written, there could be reps and warranties that the borrower may not be able to make. So if there’s an MAE or a MAC clause, you have to evaluate whether or not the borrower is able to make that claim. Or whether it’s going to go instead to the lender and say, “Hey, listen, I either want a covenant waiver, because I’m going to fall out of covenant and I want to give you advance notice.” Or “Because I want to do a bring down, I want you to waive the fact that I can’t make the no MAC clause wrap in my agreement.” So these are, really quite quite important issues. And one of our bulletins goes into considerable detail as it relates to credit facilities.
Another point that sometimes can come up is, if you’re in a situation where you’ve had to cease business operations, presumably because of an order. Sometimes there are affirmative covenants in credit facilities that say you have to be actively in business. And so could that cessation of business, in fact, be its own event of default or default that might be called by the lender. And there’s a whole number of these issues that could be relevant.
The other thing is, if you have an asset based loan, you could have impairment issues, that could affect the calculation of the borrowing base. So these are a whole bunch of issues that a credit facility specific that may be worth people’s thought and consideration. There was an executive order that was passed earlier this week, or maybe at the end of last week, it’s less than a week old, one of a number of state executive orders. And it basically says that any bank that’s subject to the jurisdiction of the New York Department of Financial Services, is “engaging in an unsafe and unsound” business practice under the banking law, if it fails to grant a 90-day forbearance to anybody with a financial hardship as a result of the pandemic.
So, obviously, this is on untested waters, but it’s certainly for those folks who have New York law governed agreements, and where those agreements involve a bank that is subject to the New York DFS. That could be a very, very nice hammer to use when you’re talking to a bank.
Let me get to the next part of this. Bear with me please. So obviously like everything else the devil is in the details and one of the points, it’s only banks that are subject to DFS jurisdiction are covered. So all state chartered banks, meaning New York State charter banks, they will be covered. State chartered branches and agencies of foreign banks are likely to be covered as well.
However, national banks and federal branches and agencies of foreign banks, probably not subject to the executive orders. So, for example, Bank of China, China Merchants Bank, a lot of overseas banks that are present in New York, that might be federal branches of a foreign bank, they’re not covered by this. Still a great hammer to have in your hands if you can take advantage of it.
There is also a consumer mortgage provision which basically also is trying to protect people from the situation and provided some type of forbearance. There is a need for emergency regulations. And of course, when those come out, I guess for those people who are affected, it will be worth seeing what those are. And then there are provisions regarding preventing trying to put a hold on fees to try and again quell people’s fears and calm people’s nerves.
So, the next few slides are going to be some recitations of executive orders by New York, and New Jersey, I’m going to try and run through those fairly quickly. Even though there’s a lot of slides, I may just put the slide up and let people read it. So that I can try and conclude promptly at 1:55 and leave some time for questions.
So these are the three preliminary executive orders from New York State. And these were all dealing with modifications and reductions of in-person workforces. The banking one was 202.9, which I’ve already shown you. So if you want I’ll go to the next slide and give people a minute or two to just read it.
So as you can see from this language, this is sort of trying to create the essential versus the non essential and this is also true of orders in other states. A lot of the advice I’ve been giving clients is actually whether or not their activities either fall inside or outside the scope of being in some type of an essential function. Some of them are quite easy, but others are not easy at all. And I represent a company in the blanket business, and blankets are used in a lot of instances including in healthcare. Although they specifically they don’t really make health care type blankets but they make blankets. So quickly question was, are they inside or outside of one of those essential categories?
The next couple of slides is dealing with Governor Murphy’s order. And again, I’ll give people just a minute to read this. And the remainder of this order actually goes into, quite a fairly lengthy list of those types of businesses that would be accepted. At the bottom on the slide it says that the state director, emergency management has the discretion to make additions, amendments or clarifications and exclusions to the list.
So this was the list of what would be considered essential. This covers a fair amount of ground actually. So, with that I think I will open the floor up to questions, I think, Andy, you might have questions as well. Whatever people want. I think we’ve got the timing pretty good, though.
Jerry, thanks very much. Great presentation. We do have some questions from our guests. But before we do that, I want to ask you a question. A lot of the information you presented you referenced New York, you reference New Jersey, respecting that we’ve got 50 states, if you would have reference how those same provisions applied in all 50 states, we’d be here for days.
So I’m assuming, correct me if I’m wrong, that a lot of things you discussed today could vary state by state, correct?
And I’m also assuming, given the country wide and global nature of Reed Smith’s service delivery model, to the extent someone needs to get a clarification from you about how something we discussed today would be affected in California or some other state.
That’s not an issue.
Yeah, they could reach out to you. Sure.
Yeah. Yeah. And generally I you know, I mean, these principles are, especially the force majeure principle it’s a common law principle. So it’s a broad applicability. It’s just that the individual nuances on a state to state level might not be identical.
Great. Great. Thanks, Jerry. So here’s our first question from one of our guests, they’re interested in hearing your thoughts experience reviews, as it relates to how disaster recovery and business continuity plans interact with facility management clauses.
Facility management so this would be a situation where the person is a provider of facility management services, and they are trying to get out of having to provide the service.
Just a more of a broad question about a deliverer of facility management services. How might disaster recovery plans or business continuity plans effect the requirement of a provider to continue to deliver?
Well, I think that provider’s obligation to deliver might be dependent upon the specific circumstance or customer in question. Especially if, for instance, they are our suppliers or a vendor to a healthcare facility, they would be viewed as being in a part of this essential supplier mode. And I would think that they would have to view their obligations to perform in light of that. I’m not as sort of an expert in business continuity plans. I do note that there are clients that are taking a hard look at their business interruption insurance coverage. And we have an insurance coverage group that’s spending a lot of time evaluating policies to say, okay, you have business interruption coverage, how does it work? What exactly is covered, what’s triggered, what’s excluded? And in the insurance world, just like in the rotor based contractual world, the exact words on that page in that policy can be quite important.
Thank you. Thank you, sir. Here’s another question. From one … okay, there goes. So one of our guests is in the training services business. They are in the business of delivering face to face training sessions to their clients. And their clients have been understandably canceling and postponing their sessions. So this particular guest is saying that their company can still deliver the same content virtually versus in person. But if the client uses a force majeure to get out of the contract, do you believe that they have a case under the power to perform requirements?
Obviously, I’d have to look at the language in the agreement. But if there’s another way to deliver the service. First of all, it’s not it’s not really up to the customer in this instance, to argue that they can’t accept the service if there’s a way for the service to be delivered. So my preliminary view of that would be the training services provider would at his initial position, say, this isn’t stopping me from delivering my service, you have a computer, I can deliver the service, you have to stick to the terms of the agreement. That would be the position I would take on that?
I think it’s fair Jerry to reiterate what you said in the beginning, any of these answers that you’re giving here, depend on local law, and also depend upon the terms of the contract. That the advice you’re giving is general and broad and [crosstalk 00:54:33]. Right?
Exactly, exactly, yeah.
I think that makes a lot of sense. I think also, the argument in that particular case could be where the recipient of that service may attempt to compel the delivery of the service to deliver it and say, “You should deliver it to me virtually.” So I think that would be a very interesting conversation.
Here’s another question. That drywall contractor is very popular. The question is, why can’t the drywall contact contractor use facility management, an FM to stop paying rent? Is that correct? Facility management? No, I don’t think that’s correct.
Force majeure. Thank you. You know what, I’m going to correct myself because I think the the letters FM may have a-
[crosstalk 00:55:19] earlier question.
That’s all right.
Why can’t the drywall contractor use force majeure to stop paying rent? If it’s a non essential business, and he cannot go to his rented space, should he have to pay rent?
Okay, that’s actually a pretty … that’s a good question. So if he … Okay, that’s a good question. So a couple of things. First of all, using the drywall example and I did specifically say he couldn’t use a force majeure provision to not pay rent. So if he is barred from occupying the premises, and he’s barred by that, by governmental order. And if his lease contains a provision, a force majeure provision that uses as a trigger a governmental order or embargo, then for the duration of the embargo only, his argument would be, “I can’t pay rent, I can’t occupy my premises. I can’t conduct my business, I can’t pay you.”
However, if there’s no force majeure provision in that lease, he’s out of luck. And if there’s a force majeure provision in that lease, that doesn’t mention governmental order or embargo again, the … when I say he’s out of luck, I’m not trying to be cruel here, I’m just trying to say he’s not on good footing to make an argument. Should he make it the argument? Yes. Should he use all the arguments in his arsenal? Yes. It’s just that that landlord that owns his building and maybe five other buildings owes money to a lender. And the lender for that credit, for that mortgage may not have a force majeure provision in that arrangement. So the damn landlord, it’s kind of like, bad stuff runs downhill, you know these phrases. It runs in both directions. So the landlord is not going to be getting any relief from his bank. So that’s kind of why you have this sort of domino thing.
And unless we’re in a situation where the government were to declare some type of what I would call enforcement moratorium, like literally freeze the world for 90 days, which is not gonna happen, especially if … it’s not gonna happen with the federal level. Everybody’s going to be in an argument, and that’s why this is a timely topic.
Jerry, I’ve got a question about a landlord tenant relationship. So if a landlord keeps his building open, but a tenant can’t or chooses not to go to the building, either because he’s been deemed not an essential organization or otherwise, is the tenant still obligated to pay rent because the landlord keeps the building open?
I think you kind of addressed that earlier.
Without looking at the documents, the answer is yes.
Okay, that’s an easy one, that’s an easy one. So I think we have just a couple more.
Here’s a clarification for my misinterpretation of the earlier question. How does an obligation to perform disaster recovery play with respect to a force majeure?
So perform a disaster recovery, so this is a situation where the party to the contract is, is performing disaster recovery services. They’re the service provider from the looks of it. And again, without knowing what that particular contract says one would think that if they are a provider of disaster recovery services, whether it’s data management or whatever, then you would think that the customers who negotiate those agreements sort of come hell or high water, want to know that their service providers there for them to do what needs to be done.
And so again, the existence of a pandemic, all else being equal, is not going to excuse them from performing unless the language in the contract for disaster recovery services makes specific reference to that sort of an event. And if that event itself actually precludes performance. So let’s use as an example, you have a disaster recovery site in McCook, Nebraska, wherever the heck that is, I don’t even know if that’s a real place but[inaudible 01:00:05] Nebraska. And it’s in a very sparsely populated area. And there’s no COVID-19 there, and you have wires that connect their services to their customers. There’s actually nothing in fact, involving COVID-19 preventing them from doing their work and there’s no Nebraska order. And that contract is structured that way and those people are in Nebraska, I would say that they have to perform.
Okay, that makes sense. Here’s an interesting one from one of our guests. She’s the CFO who says that they have an arrangement at their company with a food and beverage company that delivers to an onsite market in their facility. And the company that is the recipient of the services has a minimum monthly spend requirement under the contract, since the facility is closed, therefore the food and beverage deliverer cannot perform. But they might still charge a monthly minimum. Does the recipient of the service have an obligation to pay that or is there an argument against it?
So what I would say there is number one, is let’s just start about practical guidance and notification. First thing is, this person should be on the phone with the service provider and say, “Listen, we value your service. Unfortunately, it looks like the buildings going to be closing we’ve been given a notice that the building is going to be closing, it’s going to be impossible for you to deliver the service. I want you to suspend the service until such time as you can commence redelivery.” So sometimes we just have to try and start with a practical way to solve a problem rather than quickly looking at documents to see if you can get somewhere. Now of course that company may say, “Gee, Mrs. Jones, I’m really sorry. But we’ve got all this food stacked up, and we’ve got to do something with it.” You know when you fight the fight. But the best argument that this questioner would have, is that there’s an event outside of their control, like the closing of the building, if the building is closed because of some type of governmental order, all the better, if not, not so good. And they should make their arguments. But none of these are lock tied arguments and I’m assuming that a very simple food delivery contract in question doesn’t … again, I don’t know whether there’s a force majeure clause in it or not.
Understood. All right. Last few questions. So, in your opinion, Jerry, should companies undergo a broad review of all of their commercial agreements?
I would say for companies that have a lot of resources they should consider that. I would also say it really depends.
So I’m not sort of a fan of companies spending money needlessly. There can also be mechanisms by which large numbers of contracts can be evaluated. And we have a service or thing called gravity stack, where it’s some highly automated, I don’t know if I call it artificial intelligence, but it’s a program. And we have one of our international clients that asked us to evaluate 8000 contracts. We did that in one day using this gravity stack software that we had developed.
Well, you were busy.
You were busy that day.
Yeah, It wasn’t me[inaudible 01:03:49]. So, for companies that really have a lot we can handle that. But I would also say that what’s most important is that companies focus on the contracts that are the most critical core contracts to their business. And that’s going to vary depending upon who the company is, what their function is, and to decide what things they ought to be looking at. In many cases, it might be credit facility lease, and other core contracts with customers or other business partners. I’ll use that in quotes.
That makes perfect sense. Jerry, last question for you. What should companies do given the current environment if they have important contracts that do not include force majeure provisions?
Okay. Probably the most practical thing is communication. So they see an agreement, it doesn’t have a force majeure provision, it looks like perhaps they may be obligated to perform. First thing they ought to be doing is, communicating with the counterparty and trying to develop a relationship. The other thing they ought to do is they ought to evaluate other resources that they might have. Do they have business interruption insurance? Are there other things out there in the universe that would be useful for them to tap?
They ought to then think about the doctrine of impossibility in those narrow circumstances where it might be applicable, they would think about the impracticability of performance if the thing in question involves the sale of goods.
And at the end of the day, like it or not, we are in uncharted territory right now. And so, this is a crazy world we’re in and the best … sometimes the best solution is just to be a good communicator, and to talk with your partner and to provide some level of expectation management to say, “Hey, if we weren’t in this pickle, I would really love to pay you, but I can’t because of X, Y and Z. And I know that that has ramifications for you up the chain but …” But so a lot of times it’s about good communication management and expectation of management. And that’s where the practical side of me rather than the lawyers half of my brain comes in and says, “You’ve got to use that part too. Don’t just look at this with a microscope, you got to look at it practically.”
Jerry, you’ve delivered some great insight to us today. I want to thank you very much for your time. I want to thank you very much for permitting CFO Studio to share with our guests, our CFO friends, the insights that you’ve developed in your very successful career and services that are available for Reed Smith. I will encourage all of our guests to reach out to Jerry. Jerry has graciously offered to make copies of his slides available. His email address and contact information was communicated through the chat. So we also displayed on the slides themselves. If you didn’t get it, reach out to Lawrence or to me, and we’ll be very happy to send that to you.
Again, Jerry, thank you so much for your time. I want to remind everyone of the upcoming CFO Studio events that I mentioned next week, on Friday, April 3rd. We will have a presentation on what’s going on in supply chain logistics because we think given what’s happened in the last few months, there will be some very, very significant changes worldwide in supply chain logistics. Also, as we mentioned during the presentation, as well as through the chat, while we deliver the service to our guests at no cost to the extent you’d like to assist CFO Studio into fraying its production costs, there’s a link and we’d be very excited for you to do that. But don’t feel obligated to do that if you prefer not to.
On behalf of my good friend, Jerry DiFiori, on behalf of Reed Smith, on behalf of my colleagues at CFO Studio myself, I hope that you’ll all stay very healthy. I hope that you will be safe. I hope that you’ll come see us again and God bless.