I have been reading Storm Lake, a book by Art Cullen, the editor of the Storm Lake (Iowa) Times and a 2017 Pulitzer Prize winner for editorial writing. In his book, Cullen chronicles the ways that agriculture and his hometown of Storm Lake have been transformed over the years. What strikes me most about the book is how the business cycles of boom and bust still exist in agriculture today and are little changed from when I was growing up on a farm in Iowa decades ago. It appears that we are in or entering a new bust cycle in production agriculture.
So far, producers have by and large managed to continue operating because lenders have been willing to provide working capital loans to them each year to paper over prior year operating losses. But recent increases in the number of bankruptcy filings and farm foreclosures suggest we may be reaching the end of the line for such easy fixes, such as “pretend and extend” lending. When the lender says it will not renew or provide new working capital, many producers do not know what to do. Professionals advising producers should remember a few simple rules about how to deal effectively with their client’s lender if negotiating over a problem loan. The following are a few considerations and tips worth remembering:
1. Understand the Problem From the Lender’s Perspective
Many lenders, such as commercial banks, are highly regulated in terms of their lending capacity and requirements. Banks are subject to regular audits by state or federal regulators who are checking on the bank’s loans to make sure the loans do not pose an undue risk that might lead to the failure of the bank. In addition, lenders are in the business of loaning money and making money on those loans—not foreclosing on collateral. Thus, having adequate collateral for a loan does not mean the lender will continue to lend. The lender must be convinced there is capacity to pay the loan back as well. This can be difficult for clients who do not understand why the lender will not simply continue to lend when there is adequate value in collateral assets like land to support a new or extended loan. When a commercial bank is facing a problem loan, expect the lending relationship to change.
2. Understand the Producer’s Situation
Professionals advising the producer need to understand the facts of the lending relationship and the producer’s operations. How has the producer performed in the past compared to past operating projections? Is it time to get updated land or equipment appraisals? Is land being leased at current market prices and what are the trends? Are there any special government programs or benefits available to the producer? If the trend line has been to lose money in the last several years, what can be changed in the operations to turn that around? In addition, examine the lending documents to determine if there are any technical defects in the liens, such as whether the lender has correctly obtained and perfected liens on land, crops or livestock. Review of lending documents will be useful to understanding loan maturities and default provisions, and what the timing and type of remedies the lender may exercise.
3. Understand and Analyze Legal Options and Negotiating Tactics
Not all borrowers with defaulted loans should file a bankruptcy case. But understanding whether bankruptcy is a viable option is crucial for the professional and her client to understand while negotiating alternatives to a defaulted loan. Bankruptcy might be a credible concern for the lender if, for example, there is a possibility of the lender being crammed down in a bankruptcy reorganization plan. In addition, many states with significant agriculture sectors may have special protections for producers that provide alternatives to foreclosure or bankruptcy, such as mandatory mediation provisions or special rights of redemption from foreclosure sales (many of these statutes were adopted as a result of the 1980’s farm crisis). Understanding how these remedies and procedures affect the lender’s ability to foreclose on collateral is important for any negotiation to restructure the loan with the lender. Tax consequences may arise from operating losses or foreclosure sales. Consider if tax refunds could be generated from carrying operating losses back to profitable years, and understand what the tax consequences from events like foreclosure sales are. These sales often result in capital gains or losses, depending on the producer’s basis in the asset being sold.
4. Present a Realistic Plan to the Lender
Many lenders are conservative by nature and risk averse. These characteristics are exacerbated when a borrower is in trouble. Therefore, any plan a producer presents to the lender must be credible and realistic. Consider options that may be difficult to take but will be meaningful to the lender, such as liquidation to cash of excess equipment or the sale of some land, with proceeds used to pay down debt. Are there credit enhancements such as guarantees from third parties or cash infusions available? Is it possible to get credit terms with input suppliers which could reduce the amount of cash needed from the lender to fund operations for the upcoming year?
5. Reduce Any Agreement to Writing
Once you reach agreement with the lender, the agreement needs to be in writing and signed by the lender to be enforced. Any writing needs to reflect the terms of the agreement, especially if the lender is agreeing to act or not to act (such as committing to make new loans or forbearing from remedies). Under the laws of many states, an oral agreement with a lender is unenforceable (subject to certain equitable exceptions). Therefore, get the agreement in writing, signed by the parties.
In this troubling agricultural market, it is an unfortunate fact that some agricultural producers will face difficulty in their business relationships with their lenders. It may be difficult for the producers to understand why the lenders are no longer willing to provide loans and producers will undoubtedly have a certain level of fear regarding the economic futures for their operations. Hiring a professional during these tough economic times can provide agricultural producers with needed assistance. Hopefully, these tips can help professionals assist producers in achieving a path moving forward.