As a result of the global economic uncertainty arising from the COVID-19 pandemic, borrowers are now confronted with numerous concerns, including business interruptions impacting their cashflow and their ability to maintain access to liquidity in the face of an uncertain future. Last week, our Financial Services Update focused on anti-hoarding and some of the defensive strategies that lenders may try to implement to prevent borrowers from drawing down their entire lines of credit which may further expose lenders to additional credit risks at a time when lenders may need to preserve their capital. We also cautioned that defensive strategies, such as adjusting margin formulas and borrowing base calculations including valuing eligible collateral on a mark to market basis or implementing reserves, should be done in light of a lender’s duty to fund and act in good faith and their obligation to act in a commercially reasonable manner. While borrowers and lenders attempt to navigate this uncharted territory, they need to be aware of their ongoing obligations, pursuant to their credit agreements and the common law, to act in a commercially reasonable manner and with the utmost good faith.
Commercial Reasonableness
In credit agreements, a lender’s future discretion or consent is often qualified by the language that the lender will act “reasonably”. However, even in situations where the credit agreement is silent in this regard, under Canadian common law banks have an implied duty to act reasonably and exercise reasonable care and skill in the performance of their banking services. Determining if a lender’s actions were reasonable requires a contextual approach that considers whether or not the lender arrived at its decision by considering all of the circumstances that a hypothetical ordinary ‘reasonable’ person would have considered, if faced with a similar situation. Generally speaking, while credit or risk decisions are typically considered reasonable criteria for a lender to withhold consent, other lender decisions will need to be examined within the context of each situation, and the facts of that situation are what will determine if the lender’s decision is reasonable. Similarly, borrowers should also be aware of their duty to act reasonably within the context of their debtor-creditor relationship.
Duty of Good Faith
Common Law Jurisdictions
In Bhasin v Hrynew[1], the Supreme Court of Canada recognized good faith as a legal duty that applies in the performance of all contracts as a general organizing principle of common law, this principle applies to both lenders and borrowers. In the context of credit agreements, good faith provides that lenders and borrowers owe each other a duty of honest performance, which includes performing each of their contractual duties honestly and reasonably, and not capriciously or arbitrarily. Unlike fiduciary duties owed in other contexts, good faith performance does not require a borrower or lender to put the interests of the other first, but rather requires one to act in an honest and forthright manner in respect of the other.
Quebec
In contrast to the common law provinces, under Quebec law all contracts are subject to a statutorily imposed duty of good faith. Pursuant to the Civil Code of Quebec CQLR c CCQ-1991, both lenders and borrowers have an obligation to conduct themselves in good faith both at the time the obligation under the credit agreement arises and at the time it is performed or discharged.
Good Faith in Action
It is worth noting that, in practice, the functionality of the common law principle of good faith and the Civil Code of Quebec duty of good faith are remarkably similar. For instance, as we all know, in the context of enforcing a demand loan, a borrower must be provided with a reasonable amount of time to pay the outstanding indebtedness following a demand for payment. This requirement is true in common law jurisdictions and in Quebec. It is also important to note that, in an enforcement context, the lender must provide the borrower with a reasonable amount of time to repay the loan regardless of whether the credit agreement provides for it. However, as discussed above, what constitutes ‘reasonable’ will be determined based on the factual context of each specific case.
Conclusion
As borrowers and lenders increasingly consider waiving requirements or amending or enforcing provisions of their credit agreements, they should be mindful of each of their obligations to consider all such matters in a commercially reasonable manner and with the utmost good faith. However, it is also important to remember that while a lender or borrower always owes an obligation to act reasonably and perform their actions in good faith, they are not precluded from acting in their own best interests.
If you have any additional questions or would like more information, please feel free to contact any member of the Miller Thomson Financial Services Group.
[1] 2014 SCC 71
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