Ethical Issues For The Investment Banker The Transgressor Client


Ethical Issues For The Investment Banker The Transgressor Client

Lawyers are led by ethical rules and guidelines and considerable case regulation (both bankruptcy and non-bankruptcy) as it pertains to decisions about how to deal with difficult honest dilemmas. Lawyers also must consider “privilege” issues as they relate with client confidences. Investment bankers, on the other hands, have neither canons of ethics nor privilege commitments, and there is certainly little case regulation governing or guiding investment banker ethical behavior.

These distinctions were highlighted in an engagement in the past, and it serves as a real-life exemplory case of the honest dilemmas that investment bankers may face. Certain facts have been changed for privacy reasons. Your client was a publicly exchanged manufacturer, with a line of credit secured by “eligible” accounts receivable. Weekly its lender received a certificate from your client that set forth gross accounts receivable for the purpose of the borrowing foundation computation as well as net (i.e., “eligible”) accounts receivable.

The lender would then progress funds based on an agreed-upon formula. The investment bank or investment company (IVB) was involved when your client (not in chapter 11) was struggling liquidity problems and operational difficulties, and was in default on interest obligations to its bondholders. The IVB’s primary analysis was that the client and the bondholders should form an alliance to restructure the company, over the objections of the lender perhaps. The IVB believed that the lender had weaknesses in its documentation and perhaps other vulnerabilities as well.

Several weeks after the engagement commenced, and prior to the IVB discussed its proposed restructuring strategy with the business’s key constituencies, the IVB’s homework uncovered that your client was falsifying its borrowing foundation certificates. This example, which led to “over-borrowing” from the lender, apparently have been occurring for some time. It was clear that as as the lender found out the overborrowing soon, the business would be in material default on its line of credit (among other things) and out of cash. Without financial co-operation and assistance from the lender, the ongoing company would likely have had to terminate functions and close its doors within days.

What were the IVB’s options in representing this customer? After a panel meeting, convened at the IVB’s behest to inform the board of the transgressions, company management agreed to a gathering with the lender and the IVB shortly thereafter to discuss the overborrowing. After further discussions, company executives also agreed to cease further overborrowings in the interim. In short order, the IVB and the company made a presentation to the lender describing the overborrowing and the company’s immediate impending insolvency as a result of correcting the overborrowing, absent the help of the lender.

The lender eventually accepted the IVB’s analysis and supported the business’s suggested game-plan. Through the ensuing financial restructuring, the business’s constituencies achieved recoveries that both surpassed expectations and were considered to be huge leads to light of the pre-existing circumstances. As well as the IVB earned a substantial “success” fee. All’s well that ends well, but what if the IVB’s original recommendation to the table had been rejected? This was an extremely real probability, given the “siege” mentality that can conquer a board’s good sense during a crisis situation. The following are certain issues elevated by this situation that merit reflection.

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Issue: Did the IVB have the right-or the obligation-to demand that the business cease the overborrowing and disclose the matter to the lending company, with an implicit “or else”? Put another way, just what was the “or else” at the IVB’s disposal-resignation? Unilaterally advising the lender of the fraud? Response: It clearly was to demand that the overborrowing cease and desist, which the lending company be apprised at once by the company. Not merely was it the ethical move to make, but to do otherwise could have subjected the IVB to legal liability if it continued its engagement without disclosing the overborrowing to the constituencies with which it was dealing.

However, the IVB probably had limited flexibility if the client had dropped to “fess up”; resignation will then have been the IVB’s only viable option. Issue: Imagine if the company got ceased the overborrowing but in some way was not thereafter rendered illiquid? What would the IVB’s responsibilities and obligations have been at that juncture, given that no ongoing fraud would be happening?