AMERICAN ARBITRATION ASSOCIATION

Commercial Arbitration Tribunal

Re: 30 148 Y 00658 12
In the Matter of the Arbitration between
BALDWIN COUNTY SEWER SERVICE, L.L.C.
and
REGIONS BANK
and
MORGAN KEEGAN & COMPANY, INC.
(Claimant)
(Respondents)
OPINION AND AWARD OF ARBITRATORS
WE, THE UNDERSIGNED ARBITRATORS, having been designated in
accordance with the arbitration agreement entered into between the above-
named parties and dated June 1 , 2007, and having been duly sworn, and having
duly heard the proofs and allegations of the Parties, do hereby AWARD, as
follows:
The Arbitrators have considered the evidence presented in the hearings in
this matter held in Mobile, Alabama, from January 13, 2014 through January 17,
2014, inclusive, as well as the numerous exhibits and the extensive briefing
provided by counsel. At the outset, the Arbitrators wish to compliment counsel
on both sides of this case for the clarity of their presentations, their legal skills
and good nature, and the professionalism they demonstrated from the initial
conferences through their final submissions. It was truly a pleasure to have
worked with such competent attorneys.
FACTUAL FINDINGS
Claimant, Baldwin County Sewer Service, LLC (and certain other sewer
service entities purchased by the company, collectively called "BCSS"), instituted
this Arbitration against Respondent, Regions Bank, for the actions of the Bank
and its predecessor, AmSouth Bank (collectively "the Bank"), asserting that
BCSS had been induced to purchase interest rate swaps in three transactions in
2005 and 2007. Co-Respondent, Morgan, Keegan & Company, Inc., was
dismissed as a Respondent by consent. Although BCSS had asserted several
theories of liability, it has finally claimed entitlement to compensation solely on
the basis of fraud and misrepresentation in the inducement to purchase three
interest rate swaps. It seeks the remedy of rescission, effecting the return of all
sums paid for the swaps from their inception. For the reasons that follow, this
Panel, with a dissenting vote limited to one aspect of this decision, grants the
relief claimed by BCSS.
BCSS is a private sewer utility headquartered in Summerdale, Alabama.
BCSS's principal and President, Clarence Burke, developed a professional
relationship and later friendship with a "relationship manager" (often called a loan
officer in other banks) at AmSouth Bank, Russell Ford. BCSS's other officers or
principals were Gerald McManus, the Chief Financial Officer, and outside auditor,
William Kell, David Delaney, the manager of a related entity owning a portion of
BCSS, and Michael Delaney, the attorney for BCSS and the brother of David
2
Delaney. In addition to Russell Ford, the AmSouth/Regions personnel dealing
with this matter were Richard Coad, the head of the VRDN group in the Bank's
Capital Markets Department, and interest rate swap marketer, John Robinson.
After the acquisition of AmSouth Bank by Regions, Russell Ford and Richard
Coad retained their positions, but the interest rate swap marketer became Justin
Harp.
Ford was a top-producer for AmSouth and later Regions, and both BCSS
and Burke considered Ford as an advisor and a guide in the area of interest rate
risk and management. The Bank, through its advertising, repeatedly held itself
out to the community as a "trusted advisor" in financial matters, and Ford
attempted to discharge this role to the best of his ability. The Bank asserts that it
was not a consultant or advisor to BCSS. It claims that the relationship was
merely that of a debtor-creditor and that there was no "special confidential
relationship." The Bank's advertising and the apparent reliance by BCSS on the
continued advice from Ford and other officials shed a different light on the
relationship. The Bank assumed the relationship of an advisor, as well as being
a creditor.
After 2000, the Bank determined that rather than making direct longer-
term loans to substantial borrowers, it would assist such borrowers in marketing
Variable Rate Demand Notes ("VRDNs"). Such variable rate loans (sometimes
called Bonds) were found to be more profitable to the Bank than the usual
interest-bearing direct loans. The mechanism for the issuance of a VRDN was
for the borrower to sell its notes or bonds and agree to pay a rate that varied on a
3
weekly basis. Rather than the Bank taking its own money and lending it to the
borrower, it would guarantee the issuer's payments, therefore wrapping its own
credit around the borrower's credit and thus enhancing the marketability of the
borrower's notes. This was the rough equivalent of the Bank issuing a letter of
credit guaranteeing the borrower's notes. In this manner, the borrower would
pay a lower interest rate than it would have had it merely borrowed the money
from the Bank on the strength of its own credit. The purchaser of a VRDN would
be willing to accept a lower interest rate because the Bank was more credit-
worthy than the borrower. The Bank would charge the borrower a fee for
guaranteeing the borrower's note, a Trustee fee, and also an additional fee for
the remarketing of the note on a weekly basis in the general financial markets for
these products. Burke was told by Ford and others at the Bank that the VRDN
rate was tied to LIBOR and that he was paying 115 basis points over LIBOR for
the letter of credit, the remarketing fee, and the trustee fee. Ford verified that he
had told BCSS that the rate would be a LIBOR equivalent rate. Even Coad when
discussing the VRDNs internally referred to the VRDNs as "LIBOR based." (See
Claimant's Exhibit 57.)
As will be discussed later, the interest rate described in the Notes and the
Master Agreement governing the transaction described the rate merely as the
"lowest rate that would, in the opinion of the Remarketing Agent, result in
the marketing value of the [VRDNs] being 100% of the principal amount
thereof on the date of such termination, taking into account relevant
market conditions and credit rating factors as they exist on that date;
provided however, that the Weekly Rate may never exceed the Cap rate
[12%]."
4
VRDNs issued by companies such as BCSS and guaranteed by banks
such as Am South/Regions Bank did not exactly follow the LIBOR rate, but the
discrepancies were so small that the Bank's representatives (mistakenly)
informed customers that the VRDN rates were LIBOR rates. The LIBOR rate is
actually the London Interbank Offered Rate, namely the rate at which banks
borrow funds from other banks in the London Interbank market. Borrowers such
as BCSS were told, and historically the experience bore out the representation,
that the rate would be LIBOR-based. Ford repeatedly confirmed these
statements in his testimony.
In addition to this variable rate, the Bank charged for bank service fees,
trustee fees, and remarketing fees, which the customers readily understood were
in addition to the "LIBOR" rate, but the overall savings to the borrowers amply
justified the use of VRDNs rather than direct loans by the Bank to its customers.
The problem in this transaction, and one not explained to BCSS or other
customers of the Bank, was that the adherence to the approximate LIBOR
standard was dependent upon the Bank's own credit. LIBOR was based on the
credit of some of the world's largest and most stable banks. The VRDNs were
based on the credit worthiness of the Am South/Regions Bank guarantee. There
was some explanation that there may be a remarketing risk, but the Bank
assured Burke, and the VRDN agreement provided, that if there were problems,
the Bank would buy back the notes and BCSS would be charged no more than
the Bank prime rate from the time of the issuance of the VRDN transactions.
5
Between 2002 and 2007, BCSS issued $42.575 million in these VRDN
notes. Notwithstanding the contrary language in the agreements, the Bank
consistently referred to the rates paid by BCSS as LIBOR rates.
As interest rates dropped during 2002 to 2007, the Bank, through Ford,
explained to Burke that BCSS could convert its variable rate obligations to a fixed
rate and freeze these then-current low interest rates for the balance of the life of
the various VRDN obligations. Ford explained that an interest rate swap, if
purchased by BCSS for a substantial fee, would permit the company to pay a
fixed interest rate, and that the swap partner would be obligated to pay the
variable rate on the outstanding VRDNs. This was marketed to BCSS on the
basis that the VRDNs were paying interest based on a weekly LIBOR and the
interest rate swaps so purchased would pay LIBOR to the note holders based on
a monthly revision which averaged the weekly rates.
Later, when David Delaney, BCSS's counsel, noted small variances and
questioned them, the Bank explained that there might be some small variance,
but the rates would be offset. The differences were caused by the slight variance
between weekly and monthly LIBOR rates. This explanation assuaged any
apprehension that there was any substantial variance from LIBOR. This Panel
has no question but that this is the way the swaps were marketed to BCSS, that
this was in conformity to the training the BCSS representatives had received, and
that this scenario was replicated in contemporaneous transactions with other
borrowers.
6
There were, in fact, additional risks, one called a "basis risk," well
understood by the swap experts at the Bank and testified to by the Bank's expert,
who called this risk a "lottery ticket," meaning that the risk was one against which
the Bank could not protect itself and would not assume in swap transaction with a
client. Internal documents at the Bank indicated that this basis risk should be
disclosed to a customer as an inherent risk in purchasing a swap as it made the
purchase less than one which would generate a truly fixed rate.
The explanations should have informed BCSS that in the transactions in
question, this basis risk was one that the VRDNs might depart from the LIBOR
approximatfon because the Bank's own credit might be adversely affected by
unknown circumstances or market forces, and thus the notes could not be sold at
LIBOR rates. This explanation was not accomplished in the BCSS transactions,
nor in the transactions with various other customers whose swaps were the
subject of proofs at the hearing. An additional risk, that the entire market for the
VRDNs would collapse, was not even considered by the Bank. The notes would
be forced on the Bank for repurchase, thus generating a loan at the Bank's prime
rate, which would diverge considerably from the LIBOR rate offered by the
swaps. The customer therefore would be paying both the obligation it had
incurred under the swap and also would be liable for the spread between LIBOR
and the bank prime rate.
The Bank contends that these risks had in fact been disclosed to BCSS on
a number of occasions. The first was when BCSS was initially considering the
purchase of swaps in 2002. The Bank then utilized the services of Key Bank in
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Ohio to provide representatives to visit customers and explain the swap
transaction, including these inherent risks. The Key Bank records indicate that
there was such an explanation on April 16, 2002 by a Key Bank employee,
Michelle LoSchiavo, and that a PowerPoint presentation had been presented to a
BCSS employee, Drew Delaney.
The Panel notes that this was three years before the purchase of the first
swap and that the only record of this presentation was a Key Bank business
record noting that it was performed. However, Drew Delaney, the son of one of
BCSS's principals, was then a twenty-three year old low level employee, a recent
graduate, and holding a temporary job in the BCSS office supervising the
secretaries and sewer service fee charges. He had no duties relating to the
finances of BCSS. He left the company in 2003, two years before the first
interest rate swap was purchased in 2005. His testimony was that he never met
with Michelle LoSchiavo, and that no one from the Bank had made a
presentation to him concerning the swaps. Had there been such a presentation,
he would have called in Burke, his father, or another senior BCSS officer.
The Bank further contended that, during the rate-setting telephone calls
for the purchase of each swap, the risks were again explained by Bank
representatives to Burke and other senior officials at BCS$_. The Panel had the
opportunity to listen to a recording of such a call, and it was clear that no such
explanation had been given. In short, the Panel determines that the basis risk
was never explained to BCSS.
8
To the contrary, the sole explanation, given repeatedly both orally and in
writing, was that BCSS was purchasing a fixed rate when it bought the swap. It
is true that if the Bank documents were carefully read, one might discern a
variance between the quoted language describing the interest rates paid on the
VRDNs and the swaps. But measuring these documentary explanations stated
in arcane language against the outright clear representations of a fixed rate
repeatedly made by the Bank, BCSS was justified in relying on the definite
statements that it was purchasing such a fixed rate. For example, when David
Delaney, BCSS's counsel, was first reviewing the VRDN documents, he noted
the language in the VRDN agreements concerning the remarketing rate and that
this language was not exactly the same as stating a "LIBOR" rate. He
determined that the best way to resolve this difference was to call the Bank's
representative and ask the question directly. He was assured that the
remarketing rate was a LIBOR rate. This makes it understandable that the
VRDN rates could be balanced against the swaps' LIBOR rates. Thus there
would be a fixed rate paid by BCSS. This process was repeated by William Kell,
BCSS's auditor, in 2005 when he reviewed the swap documents. He was also
assured that the VRDN notes and the swaps were both LIBOR rates.
Additionally, BCSS's auditor, after being assured of the LIBOR basis of both the
notes and the swap, each year described the net result as a fixed rate. The Bank
reviewed these audits and never took exception. The numerous internal Bank
documents and the representations to BCSS and other customers that refer to
9
the VRDN/swap net effect as a fixed rate overshadow any contrary assertions
based on the rather obtuse quoted language of the VRDN agreements.
Even in 2008, when the financial bubble burst and the credit ratings of the
smaller banks (and even some larger banks) were adversely affected, causing
the issues raised in this case, Ford was contacted by BCSS and asked why it
had received bills for interest greatly in excess of the swap rate. Even then,
Ford's answer was that there had been some mistake; the rate still was fixed,
and this would all be adjusted.
Ford's misunderstanding was not an isolated occurrence. The Bank's
specialist, who understood the problems with the basis risk, testified that he had
received calls from numerous other bank relationship managers whose
customers were in the same position as BCSS. They had all told their customers
that they had received fixed rates and had no idea what had gone wrong. The
Bank's internal training manuals showed that the relationship managers had
been trained to consider a VRDN and rate swap as resulting in a fixed rate. This
was not a misunderstanding by BCSS, or even by Ford. It was a general and
pervasive failure of the Bank to communicate the true risks of the rate swap.
There certainly had been no warning of the basis and market risks, i.e.,
that the entire VRDN market would virtually disappear, and thus there would be
no variable rates market against which the LIBOR swaps could be balanced. For
a time the Bank attempted to remarket the VRDNs, but to no avail. There was no
market.
10
The Panel determines that both the active misrepresentation of the
financial obligations under VRDNs and the failure to disclose the true risks of the
rate swap constituted a material misrepresentation sufficient to justify the remedy
of rescission. This rescission does not affect the viability of the VRDNs, which
are not here questioned, but rather the rate swaps. Therefore, as explained
later, BCSS is entitled under Alabama law to have refunded to it all sums it
expended for the rate swaps from the time of their inception.
The Bank has raised the defense of the Statute of Limitations. However,
as is later discussed, the Panel determines that this was a continuing fraud
through and including October 2008 when the normal spread that had been
explained as the difference between the weekly and monthly LIBOR rates
became significant. It then suddenly rose from 3.68% to 9%. Like others of the
Bank's customers, BCSS was told that the interest situation would be remedied
and that they were only liable for the negotiated fixed rate. The court filing
satisfied the Alabama two-year Statute of Limitations for a fraudulent inducement
claim. Therefore there factually is no limitation issue in this case.
Following the 2008 crash in the financial markets, Rick Coad met with
BCSS and was told that based upon the explanations given by the Bank officers,
they thought they had fixed their rate by entering into the swaps. Coad told
BCSS that if this was their goal they never should have been sold an interest rate
swap. Coad admitted to another Bank employee that he was disappointed with
the relationship managers because they had a perceived total lack of
understanding of interest rate swaps and were confused regarding the effect of
11
swaps when paired with a VRDN. This did not, however, affect the damage that
had already been done.
A separate issue exists concerning a purported release signed by BCSS,
concerning which Arbitrator Beiley dissents from the majority view of Arbitrators
Platau and Dreier.
The release in question relates to a problem that occurred in April 2009.
At that time, BCSS's auditor, in the process of performing the 2008 audit,
discovered that there were four minor technical defaults under covenants in the
VRDN documents. BCSS immediately notified the Bank of these defaults and
requested waivers. The Bank immediately agreed and, without any consultation
with representatives from BCSS as to its terms, had its attorneys prepare a
waiver document dated April 30, 2009 entitled "Agreement and Waiver of Certain
Covenant Defaults." BCSS was told by the Bank that it will be happy to waive
the defaults for the nominal sum of $5,000 so that the auditor could present a
clean audit letter. The document was sent to the Bank's CFO who first checked
that each of the technical defaults were in fact waived, and he then forwarded the
document to the principals and guarantors on the VRDN obligations for their
signatures. At no time was there any mention by the Bank that it had included
waiver or general release language on the part of BCSS in the body of this four
page document, which apparently had been intended solely to be a waiver on the
part of the Bank of the four defaults and a payment of $5,000 by BCSS.
Paragraphs 5 and 13 of the agreement read in relevant part as follows:
5. Release of Defenses. The Account Party acknowledges
and agrees that, as of the Effective Date, the Account Party was in
12
default under the Credit Agreement, due to violation of the
covenants referenced in Section 3 hereinabove ... The Account
Party acknowledges and agrees (i) that there are no offsets or
defenses to the Obligations owed by the Account Party to the Bank
pursuant to the Financing Documents, and (ii) that there are no
Events of Default existing on the date hereof other than the known
defaults referenced in Section 3 hereinabove, nor are there any
other facts or circumstances which will or could lead to an Event of
Default under the Financing Documents. To the extent the Account
Party has or could raise any claim, defense or cause of action
against the Bank arising out of or related to the Financing
Documents, or any of them, or this Agreement, it is hereby waived
and released.
******************************
13. No Waiver. Nothing contained herein shall be
construed as a waiver or acknowledgement of. or consent to any
breach of or Event of Default under the Credit Agreement and the
Financing Documents not specifically mentioned herein ....
[Emphasis added.]
The Panel notes that one would expect under the term of "Release of
Defenses" that BCSS would be acknowledging that it was in default in the four
particular areas and had no defenses to the Bank's claims concerning these
particular items. It was paying $5,000 for the Bank to waive these defaults.
However, at the end of this paragraph, the Bank had added a sentence: "To the
extent the Account Party has or could raise any claim, defense or cause of action
against the Bank arising out of or related to the Financing Documents, or any of
them, or this Agreement, it is hereby waived and released." [Emphasis added.]
This sentence could, as now urged by the Bank, be read as releasing BCSS's
fraud or misrepresentation claims not yet asserted or fully appreciated by BCSS
against the Bank for potentially several million dollars in losses BCSS had
suffered as a result of the swaps not covering the VRDN interest payments. The
13
initial losses had in fact been discovered six months before this document, but,
as of the time of this waiver of the reporting requirements, the relationship
between the parties had not deteriorated, and business had been proceeding
between the entities. In fact, it was not even apparent that the Bank itself
considered this language a waiver of the fraud and misrepresentation claims as
this release language was not asserted as a separate defense for some time
after BCSS's later claim.
Paragraph 5 must also be read in conjunction with the provisions of
Paragraph 13, entitled "No Waiver." This provision leads one initially to believe
that there was no waiver of any default by either party not specifically mentioned
in the agreement, i.e., that this lack of waiver applies to both sides. Therefore
the fraud claim certainly would not have been waived. A very careful reading of
the language shows that there was only no "waiver or acknowledgement of, or
consent to" breaches or defaults under the Credit Agreement and Financing
Documents. This clause may therefore arguably not apply as a "release" under a
common law, statutory, or equitable claim for fraud or misrepresentation. The
majority of the Panel determines that (1) the provisions of Paragraphs 5 and 13
read together, (2) the general purpose of the agreement as stated therein (to
waive the four technical defaults for $5,000), and (3) the parties' common
understanding of the agreement at the time, reveal no intention of BCSS to
release the bases for its rescission claim or any intention of the Bank to demand
such release in this documents. The Bank was merely waiving four minor
technical defaults for the paltry sum of $5,000. If the Bank actually intended to
14
hide a release of a potential multi-million dollar claim without calling even the
subject matter to the attention of BCSS, this well could be an additional claim of
fraud, certainly nullifying the effect of this release. If the Bank so intended this as
such .a release, it could have clearly stated this in the title, noted its intention in
contemporaneous communications, or otherwise put BCSS on notice of a
release of unrelated claims.
CONCLUSIONS OF LAW
The Panel must initially examine whether the repeated representations
concerning the interest rates on the VRDNs as being tied to LIBOR, where a
careful reading of the VRDN agreements would have shown that they were
separately negotiated variable rates governed by the ability of the remarketer to
obtain the best rates available, constituted a fraud.
As noted earlier, even though the interest rate provisions were contained
in a two hundred word esoteric definition on page 134 of the 2002 VRDN
agreement, this language was actually discovered by David Delaney, who
admitted his confusion in interpreting the language. But he was assured by Ford
and others at the Bank that this language meant that BCSS was receiving a
LIBOR rate (plus the adjustments noted earlier). The Panel determines that Ford
actually believed that the VRDNs in fact had a LIBOR-based rate with the noted
adjustments. Others at the Bank who knew that the rate was not technically a
LIBOR rate also did not intend to mislead BSCC. The history of the VRDN
marketing, dependent upon bank credit, showed slight if any variance from
15
LIBOR. The difference was explained and believed by the Bank personnel to
reflect the slight variations between the monthly and weekly LIBOR rates.
The intention to deceive, however, is not a requirement for the statutory
tort of misrepresentation in Alabama. '"Legal fraud' includes misrepresentations
of material fact made 'by mistake or innocently,' as well as misrepresentations
made 'willfully to deceive, or recklessly without knowledge."' Lawson v. Harris
Culinary Enter., LLC, 83 So. 3d 483, 492 (Ala. 2011 ), quoting Young v. Serra
Volkswagen Inc., 579 So.2d 1337 (Ala. 1991 ), Alabama Code 6-5-1 01 (Fraud-
Misrepresentation of material fact). '"An innocent misrepresentation is as much a
legal fraud as an intended misrepresentation and the good faith of a party in
making what proves to be a material misrepresentation is immaterial as to the
question whether there was an actionable fraud if the other party acted on the
misrepresentation to his detriment."' Davis v. Sterne, Agee & Leach, Inc., 965
So.2d 1076, 1091 (Ala. 2007), quoting Smith v. Reynolds Metals Co., 497 So.2d
93, 95 (Ala. 1986). An innocent misstatement of a material fact which a counter-
party is intended to believe and rely upon, and does so to its damage, is a fraud
under Alabama law.
This fraud without scienter is generally recognized throughout the country
as "equitable fraud" justifying the remedy of rescission. Suppressing material
facts where there is an obligation to communicate them has similar results. Ala.
Code 6-5-102. Here, however, BCSS is not seeking to rescind the VRDN
agreements, but only to establish the fact that it had been repeatedly assured
that these agreements were based on LIBOR rates. The alleged fraud relates to
16
the incorporation of these misrepresentations in the later interest rate swap
transactions of 2005 and 2007.
With regard to these interest rate swaps transactions, the earlier incorrect
characterization of the VRDN interest rates as being LIBOR- based was repeated
by the Bank and relied upon by BCSS. It was advised and counseled by the
Bank to enter into the transaction on the strength of the Bank's representation
that the LIBOR payments on the swaps would cancel the variable rates on the
bonds. The Panel wishes it to be clear that it is not relying upon single
statements which may have used the term "fixed rate" in an offhand or summary
matter. The Bank's internal documentation for the training of its personnel, the
experience with a legion of additional customers, and the testimony of the
personnel who had direct communications with the customers concerning the
nature of the swaps has demonstrated by clear and convincing evidence that the
Bank repeatedly misrepresented the fixed interest nature of the VRDN/swap
transaction.
The basis or market risks described earlier were never the basis of a
warning, caveat, or description by the Bank to BCSS. This omission constituted
a material misrepresentation in the same manner as the positive misstatements
that the VRDNs' variable rates would balance the payments made for the swaps,
and would have the net effect of giving BCSS a fixed rate. These were material
omissions and active misrepresentations of material facts causing BCSS to enter
into the swap transactions. Under the Alabama statutes and cases interpreting
them, BCSS is entitled to rescind the swap purchases.
17
There has been a settled principle of Alabama law for over a hundred
years that "where one is induced by fraud to enter into a contract he may rescind
by restoring benefits and recovering payments." Southern Building & Loan Ass'n
v. Argo, 141 So.2d 545, 546 (Ala. 1932), citing earlier cases. "An alternative
would have been to retain benefits and sue in deceit for damages." /d. In this
case, BCSS has elected the remedy of rescission.
Additionally, the Panel must examine the agreements' provisions that
BCSS could not rely upon any oral representations and that it had an ample
opportunity to read the agreements and have the agreements reviewed by
accountants and attorneys. The issue is whether these contractual provisions
nullified any and all representations. This is a threshold issue which potentially
could bar BCSS's claim.
With regard to this claim that the merger and integration clauses bar this
commercial fraud claim, Alabama law rejects this argument, and permits proof of
the fraudulent representations and reasonable reliance. See Ex parte Lumpkin,
702 So.2d 462, 467-69 (Ala. 1997); Patten v. A/fa Mut. Insurance Co., 670 So.2d
854, 857 (Ala. 1995); Environmental Sys. Inc. v. Rexham Corp., 624 So. 2d
1379, 1383 (Ala. 1990). ("To hold otherwise is to encourage deliberate fraud.")
The same is true with disclaimer and non-reliance clauses, the Court stating that
if the agreement "has been induced by deliberate fraud, the written document
signed in that agreement is void." Such an agreement is "of no more binding
efficacy ... that if it had no existence, or was a piece of waste paper."
Environmental Sys. Inc. v. Rexham Corp., supra., 624 So.2d at 1385. The Court
18
continued, stating that "the existence of a general disclaimer clause in the
purchase agreement does not, as a matter of law, preclude [plaintiff] from
justifiably relying on an alleged oral representations that were not contained in
the contract." [!d. 1
The Panel therefore rejects the bar ostensibly caused by these clauses
under the facts of this case. While its intent to deceive was not a deliberate
fraud, the misstatements and omissions were intended to induce the purchase of
the swaps. The Bank may not hide behind these disclaimers and non-reliance
clauses.
BCSS had claimed punitive damages in this matter, but this claim has
been withdrawn. Had it not been withdrawn, it would have been denied, as it is
clear that the statements made by Ford and other customer representatives,
while incorrect and in situations that fully satisfy the Alabama statute, were not
made with intent to deceive or to engage "deliberately in oppression, fraud,
wantonness or malice." See Ala. Code 6-11-20 (2013). Exxon Mobile Corp. v.
Alabama Department of Conservation and Natural Resources, 986 So.2d 1093,
1113-15 (Ala. 2007). Therefore there is legally no limitation defense in this case
It is in this context that the innocence of the misstatements and omissions protect
the Bank.
The Bank has stated that the language of the several agreements
governing these transactions make it clear that BCSS could not rely upon the
representations made by Ford and the other bank officer with whom BCSS dealt.
Both sides have cited the Alabama case of Foremost Ins. Co. v. Parham, 693
19
So.2d 409 (Ala. 1997). The standards set by the Court in Foremost is one that
grants the Panel as a fact-finder, "greater flexibility in determining the issue of
reliance based on all of the circumstances surrounding a transaction, including
the mental capacity, educational background, relative sophistication and
bargaining power of the parties." /d. at 421. The standard is one of "reasonable
reliance" which bars a fraud claim as a matter of law if the Plaintiff is fully capable
of reading and understanding the document, but makes "a deliberate decision to
ignore the terms of a written contract." /d. The Panel acknowledges that, unlike
Foremost, this is not a case where, if the Plaintiff's "briefly skimmed" the
contracts, they would have discovered the fraud. The agreements in this case
contain thousands of pages, and it is true that BCSS had the agreements
reviewed by its counsel, accountant and auditor and even actually found the
language relating to the interest rate on the VRDNs. /d. at 421-22. The Panel
has noted, however, that the explanation given concerning the meaning of the
language was objectively incorrect, and throughout the entire history of the
transaction BCSS was led to believe that its rate was based on LIBOR.
The Alabama courts have found that reasonable reliance is defeated only
when the contract document "clearly contradicts the alleged misrepresentations"
and there was a "deliberate decision to ignore written contract terms." Sexton v.
Bass Comfort Control, Inc., 63 So.3d 656, 662 (Ala. Civ. App. 2010). This did not
happen in the case before this Panel. If there are contracts that are not "easily
understood," reasonable reliance will not be defeated as a matter of law.
Likewise, if the transaction requires the correlation of multiple transactional
20
documents to discover the fraud, reasonable reliance will not be decided as a
matter of law. The question is for the fact finder. Ex parte Seabol, 782 So.2d.
212, 216-217 (Ala. 2000). The Panel finds such reasonable reliance here.
The Bank contends that it had no heightened duty to disclose the nature of
the transaction to BCSS and it was a merely a creditor. There was no special
confidential relationship. The Panel determines otherwise. While a creditor, as
such, has no "special confidential relationship," in this situation such a
relationship was assumed as the Bank guided BCSS through the swap
transactions. See standards set in Flying J Fish Farm v. The People's Bank of
Greensboro, 12 So. 3d 1185, 1190-91 (Ala. 2008); Ex parte Ford Motor Credit
Co., 717 So.2d 781,786-87 (Ala. 1997). This case is also unlike CNH Am., LLC
v. Ligon Capital, LLC, _ So.3d _, 2013 WL 5966782 (Ala. 2013), cited by
BCSS. CNH Am, LLC. is also a fraudulent suppression case, but the conduct
went far beyond that attributed to the Bank by BCSS.
It is possible that independent research into the financial markets by
BCSS might have disclosed the variance between the VRDN rates and LIBOR
and the risk of the collapse of the VRDN resale markets. But this knowledge was
not readily available to BCSS, and was well known to the specialists at the Bank
who could have better trained the relationship managers or directly contacted the
borrowers with this complete explanation. The Bank has affirmatively asserted
that it did so back in 2002 and again during the rate setting telephone calls. The
Panel has determined that this was a misrepresentation. Neither of these
explanations were actually given. The fact that the Bank is relying upon these
21
explanations indicates at least some acknowledgement of its duty so to have
advised BCSS. The Bank failed in this duty.
The Bank also claims that Ford's personal relationships with Burke and
other BCSS investors should cause the Panel to discount Ford's testimony. The
Panel understands that in smaller communities there will be interrelationships
between bankers, real estate developers, builders, etc. Some shared economic
interests are not disqualifying. The Panel has assessed Ford's credibility and
determines that his testimony is believable. His later cross-examination, where
he was led through potentially contradictory testimony concerning his knowledge
of the variability of the VRDN rates vis-a-vis LIBOR, does not affect his direct and
positive testimony concerning the statements he made to Burke and others,
which were patently incorrect and were a significant basis for BCSS entering into
the rate swaps.
The Bank has raised the Statute of Limitations issue as a defense.
However, the Panel determines that there was a continuing but hidden fraud
through and including October 2008. The small variances between the VRDN
rate and the published LIBOR rate, or LIBOR rate and the VRDN rate, would not
put a reasonable borrower on notice of the fraud. They were contemporaneously
explained by the Bank and put BCSS at its ease. The fraud became apparent
only in October 2008 when the prior spread that had been explained, e.g., as the
difference between the weekly and monthly LIBOR rates, became significant
when the rate increased from 3.68% to 9%. Even then, BCSS was told that the
22
interest situation would be remedied and that they were only liable for the
negotiated fixed rate.
Soon it became apparent that these statements, like the VRDN/swap
balancing statements, were untrue. The Circuit Court filing was well within the
Alabama two-year Statute of Limitations (after discovery) for a fraudulent
inducement claim. See Ala. Code 6-2-3 (2003).
In the next section of this Opinion the Panel will discuss the damages to
be awarded, but the Bank has asserted that there were substantial benefits
conferred upon BCSS by the subject transactions. Specifically it states that
BCSS received favorable financing, and during the subject period it increased its
assets tenfold. For twelve years it has enjoyed low market interest rates and has
been protected by the swaps from interest rates which could have risen over
LIBOR. The problem with the Bank's argument is that the below-market rates
had been received initially when the VRDNs were marketed. Since 2008, BCSS
has received the Bank's prime rate on the former VRDN notes. This indeed has
been a benefit to BCSS. However, the VRDN notes are not the subject of the
damage claim, even though there was a misrepresentation that the initial rates
were linked to LIBOR. BCSS's claim is based on the cost of the swaps. Thus,
as it relates to the rescission of the interest rate swaps, this argument is
irrelevant.
It is true that Claimant has received the protection of the swaps against
interest rates which for part of 2006 and 2007 climbed above LIBOR. The
23
damages computation takes into account the sum total of all cash flows and
effectively unwinds or rescinds the swap transactions.
For the foregoing reasons, the Panel finds legal sufficiency to award
Claimant the remedy of rescission.
COMPUTATION OF DAMAGES
Had the swap transactions never occurred, Claimant would have had
neither the cash inflows nor the cash outflows associated with the swaps. The
measure of damages is then the difference between the total swap fixed cash
flow (paid by Claimant) and the total floating swap cash flow (received by
Claimant) for the period beginning June 1, 2005 through January, 2014. For
much of 2006 and 2007 the swap cash flow received by Claimant exceeded the
swap cash flow paid by Claimant. In rescinding the swap transaction, the total of
all the cash flow received by Claimant is subtracted from all cash flow paid by
Claimant as if the entire transaction had never occurred. The effect of this
calculation is to award the Claimant the net of all the cash flow paid less the cash
flow received during the life of the swaps.
AWARD
The total swap payment cash flow made by Claimant less the total
swap receipt cash flow paid to Claimant for the relevant time period totaled
to Seven Million Four Hundred Nineteen Thousand Three Hundred Fifty-
Four Dollars and Fourteen Cents ($7,419,354.14). CLAIMANT IS HEREBY
AWARDED THIS AMOUNT AS RESCISSION DAMAGES.
24
The administrative fees of the American Arbitration Association totaling
$14,200.00, shall be borne equally by BCSS and Regions Bank, and the
compensation and expenses of the Arbitrators totaling $127,540.40, shall be
borne as incurred. Therefore, Regions Bank shall reimburse BCSS the sum of
$7,1 00.00, representing that portion of said fees and expenses in excess of the
apportioned costs. previously incurred by BCSS, upon demonstration that these
r
incurred costs have been paid. The above sums are to be paid on or before
sixty (60) days from the date of this Award.
This Award is in full settlement of the clairns submitted to this Arbitration.
All claims not expressly granted herein are hereby denied.
I, Hon. William A Dreier, do hereby affirm upon my oath as Arbitrator that
I am the individual described in and who executed thls instrument which is my
Award.
~ l._e9 LlJ I l.,j
Date
I, Steven M. Platau, do hereby affirm upon my oath as Arbitrator that J am
the individual described in and who executed this instrument which is my Award.
/JIJ t'+ t'-.. L t ct -:z o 1 '"(
Date Steven M. Platau, Arbitrator
25
Dissent
While I agree wlth almost all of the factual findings, analysis and legal
conclusions of the majority, I disagree with their ruling that the release contained
in the April 30, 2009 Agreement is inva!fd and does not bar BCSS's clairns.
The April 30, 2009 Agreernent (the "Agreement"), excluding the signature
pages, is just three C3) pages long and was signed by BCSS and the loan
guarantors,. one of whom was an experienced Alabama attorney, several rnonths
after BCSS learned that the interest rate swaps would not fix BCSS's Interest
rate as represented by the Bank.
In Paragraph 5 of the .Agreement. BCSS acknowledged and agreed that it
had no offsets or defenses to its obligations to the Bank but, if it had a claim.
defense or cause of action against the Bank arising out of or related to the
Financing Documents which included the swap agreements, it waived and
released them.
The release was not procured by fraud nor was BCSS prevented from
having its counsel review the Agreement. The Bank's agreement to waive
BCSS's defaults constituted valid consideration forth!.'; release. I do not find
ambiguity in the release language nor do l find H1at Paragraph 13 of the
Agreement conflicts with or creates an ambiguity with Paragraph 5. Even if the
two paragraphs conflict, I would not resolve the conflict by writing the release
provision out of the Agreernent.
Because l find the release is valid and bars BCSS's claims, I would rule in
26
favor of the Bank and for that reason respectfully dissent from my fellow
arbitrators.
l, Stanley A Beiley, do hereby affirm upon my oath as Arbitrator that I am
the individual described in and who executed this instrument which is my Award.
11 It f Zf>{lf
Date
L(
Stanley A
27