CEO’s of MicroCap Pubco’s: To Confess or Not to Confess (Judgments that is) [Guest Post]
You put together this great company, you spend time and money developing products and services, you surround yourself with people who believe in you and what you are doing and you really want to be successful. Being a CEO is all about evaluating risk/reward. The greater the risk – the greater the reward, right? Well, don’t forget the “other” part of that formula, the greater the potential failure!
Statistics show that for every 1 successful small cap company, there are 200 failures. But when a CEO brings their ideas and products into the public markets, they are usually not prepared for the ups and downs, the twists and turns, and the amount of seemingly do-gooders that want to help you. Actually, they want to help themselves, through you. Advisors, consultants, financiers, finders, IR firms, etc……. see you as a source of revenue, so they dazzle you with glorified statements on what they can do for you, how much exposure they will get your products, your stock, etc……. and you have to pay them upfront in either cash or stock for the benefit of their …… ”expertise”. I am not saying they are all bad, but some of them leave a lot to be desired. A lot of them suffer from self-grandiose syndrome and some of them are former brokers who no longer have brokers licenses, but the allure of the capital markets and the ease by which they can make money keep them around to prey on the dreamer CEO.
However, nothing is worse for the CEO than having to personally guarantee obligations of the company or providing confessions of judgment for money borrowed. (I know, I have done that as well). The CEO’s do this because they either have ultra faith that what they are doing is so noble and right, that it will all work out, or, they just can’t seem to stay away from the crack candy (convertible debt/merchant funding agreements) because its easy fast money and it seems like a great solution to an immediate problem.
I counsel my clients to never, EVER personally guarantee ANYTHING unless they are absolutely sure there is a history of revenue generation and cash surplus to cover the obligations if push came to lawsuit. CEO’s come to me having personally guaranteed loans, executed confessions of judgment, etc… all in the name of keeping the doors open and that hope, the hope that everything will turn out positive.
OK, so some of you know me by now, so you know what’s coming…….. That’s right, thought I would backdoor the issue this time and surprise you. Well you CEO’s might be surprised to learn that if you personally guaranteed or confessed judgment on a note or loan that charges a criminally usurious interest rate, that guarantee or judgment may not be enforceable. New York, California, Texas, Massachusetts, Florida and a dozen other states have criminal usury statutes that set caps on what the lender can take in terms of interest at the time the loan is made. If the underlying loan is criminally usurious, its void as a matter of law, and the guarantee and confession of judgment are equally void. That can save you a lot of strife with your spouses.
At least in New York, the courts recognize that usurious loans are void ab initio, meaning, they are treated as if they never happened in the first place, and once tainted by usury, everything flowing is equally void, such as consent judgments, confessions of judgment and personal guarantees. (See Merchant Funding Servs., LLC v Volunteer Pharm. Inc. 2016 NY Slip Op 26443 Decided on December 30, 2016.) This court found the underlying transaction to be criminally usurious, it was void ab initio, and voided the Confessions of Judgment after the lender sought to enforce the judgment. This is one of several cases in NY that supported New York’s legislative policy of capping interest at 25%, that it cannot be waived and that a Confession of Judgment taken in an attempted enforcement of a criminally usurious loan is equally void.
I recently spoke to a CEO of a microcap that was sued, along with his company, in 2005 in federal court on a $200,000 note. The interest charged on the face of the Note was 30% and was governed by New York law. He agreed to a consent judgment provided that the claims against him personally in connection with that loan, would be dismissed. The federal court judge sitting in NY authorized and granted the consent judgment in the amount of $200,000.00 and in accord to the parties’ settlements, kicked the CEO of the case personally. Fast forward to 2017, the judgment creditor is seeking to enforce that judgment through a state court action in NY and obtained an interim order allowing him to attach the unissued shares of the microcap company (which in and of itself raises certain legal issues). I spoke with his litigation counsel in NY, someone who has been practicing law and a litigator for over 50 years, and provided him with the above case. He was shocked to say the least. As it turns out, in New York, a Note that violates the criminal usury statute cannot be vitiated through a confession of judgment or a consent order. The New York Legislature has made criminal usury a non-waivable defense because it’s not a personal right, rather, it’s a public policy right of protection for everyone in the state against loansharking. Even though the consent judgment was entered into in 2006, the litigation counsel is making a motion to vacate that consent judgment based on the unwaivable criminal usury statute, and based on several other cases, it looks like equity cannot and will not save that judgment.
About Mark R. Basile, Esq.
Mark R. Basile, Esq. is a nationally known corporate restructuring and workout attorney and is a member of The Basile Law Firm, P.C.. The Firm represents numerous OTC and Pink Sheet companies in both litigation and corporate restructurings. www.thebasilelawfirm.com
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