EXHIBIT 10.3

 

FORBEARANCE AGREEMENT

 

THIS FORBEARANCE AGREEMENT (the “Agreement”) is made as of this 2nd day of July,
2010 (the “Effective Date”), between HERON LAKE BIOENERGY, LLC, a Minnesota
limited liability company (“Borrower”) and AGSTAR FINANCIAL SERVICES, PCA, a
United States instrumentality (“Lender”).

 

RECITALS

 

A.                                    The Borrower is indebted to Lender under
the following promissory notes (collectively, the “Notes”):

 

(i)                                     A Term Note dated October 1, 2007 in the
original principal amount of $59,583,000.00 (“Note One”);

 

(ii)                                  A Term Revolving Note dated October 1,
2009 in the original principal amount of $5,000,000.00 (“Note Two”).

 

(iii)                               A Second Amended and Restated Revolving Line
of Credit Note of even date herewith in the original principal amount of
$6,750,000.00 (“Note Three”).

 

B.                                    The Borrower’s obligations to the Lender
are further evidenced by an Fourth Amended and Restated Master Loan Agreement
dated as of October 1, 2007 (the “MLA”); a Third Supplement to the Master Loan
Agreement (Term Loan) dated as of October 1, 2007 (the “Third Supplement”); an
Fourth Supplement to the Master Loan Agreement (Term Revolving Loan) dated as of
October 1, 2007 (the “Fourth Supplement”); and an Amended and Restated Fifth
Supplement to the Master Loan Agreement (Revolving Line of Credit Loan) of even
date herewith (the “Fifth Supplement”) between Borrower and Lender
(collectively, the “Loan Agreement”).

 

C.                                    The loans evidenced by the Notes and the
Loan Agreement (the “Loans”) were made by Lender to Borrower for the purpose of
constructing and operating an ethanol production facility in or near Heron Lake,
Minnesota (the “Project”).

 

D.                                    As collateral for the Notes, the Borrower
has granted to Lender (among other things):

 

(i)                                     a Mortgage, Security Agreement and
Assignment of Rents and Leases dated September 29, 2005 and recorded in the
Office of the County Recorder of Jackson County on September 30, 2005, as
Instrument No. 244879 and as amended and restated by that certain Amended and
Restated Mortgage, Security Agreement and Assignment of Rents and Leases dated
November 20, 2006 and recorded in the Office of the County Recorder of Jackson
County on December 6, 2006 as Instrument No. 248498; Second Amended and Restated
Mortgage, Security Agreement and Assignment of Rents and

 

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Leases dated December 27, 2006 and recorded in the Office of the County Recorder
of Jackson County on December 27, 2006 as Instrument No. 248658 and Third
Amended and Restated Mortgage, Security Agreement and Assignment of Rents and
Leases dated May 18, 2007 and recorded in the Office of the County Recorder of
Jackson County on June 4, 2007 as Instrument No. A 250019  collectively, the
“Mortgage”) under which Lender has a lien in certain real property in Jackson
County, Minnesota, as further described in the Mortgage (the “Real Property”);

 

(ii)                                  security interests in all of the assets of
the Borrower, including without limitation, inventory, chattel paper, accounts,
equipment, general intangibles, deposit accounts, and commodity accounts,
(collectively, the “Collateral”) pursuant to the provisions of a Security
Agreement dated September 29, 2005 (the “Security Agreement”); and

 

(iii)                               collateral assignments of all material
contracts related to the Project, including, without limitation, construction
agreements, ethanol and distillers grains marketing agreements, grain
procurement contracts and coal supply and transport agreement (collectively, the
“Assignments”).

 

E.                                      The Loan Agreement, the Notes, the
Mortgage, the Security Agreement, the Assignments and all other documents
evidencing the obligations of the Borrower under the Loans are referred to in
this Agreement as the “Loan Documents.”  All capitalized terms not otherwise
defined in this Forbearance Agreement shall have the meaning attributed to such
terms in the Loan Documents.

 

F.                                      The Borrower has failed to maintain the
financial covenants of Section 5.01(d), (e) and (g) of the MLA. As a result of
the Borrower’s financial covenant defaults, Lender has the option to declare the
Notes fully and immediately due and payable without defense or right of setoff.

 

G.                                    As a result of these financial covenant
defaults, the Borrower has requested that the Lender forbear from i) declaring
the Notes fully and immediately due and payable, and ii) from exercising its
enforcement and collection rights.

 

H.                                    In consideration of the facts set forth in
these Recitals, which the parties agree are true and correct, and in
consideration for entering into this Agreement, the Lender is willing to grant
such forbearance upon the terms and conditions set forth in this Agreement.

 

NOW, THEREFORE, in consideration of the mutual covenants and agreements set
forth in this Agreement, the parties hereto agree as follows:

 

1.                                      Acknowledgment of Default.  The Borrower
acknowledges due execution and delivery of the Loan Agreement, Notes, Mortgage
and Security Agreement and acknowledges that the same are valid and enforceable
by the Lender against the Borrower in accordance with their terms.  The Borrower
acknowledges that it is in default under the Loan Documents.  The

 

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Lender acknowledges that the Borrower has paid all installments of principal and
interest, fees, expenses, charges and other amounts payable under the Loan
Documents when due, except for the default interest covered by this Agreement.

 

2.                                      Acknowledgment of Debt.  The Borrower
acknowledges that, as a result of the defaults of the Borrower, Lender has the
option to declare that the indebtedness evidenced by the Notes is, absent the
provision of this Agreement, due and payable without any claims, defenses,
counterclaims, offsets, and/or cross-complaints, or demands of any kind or
nature whatsoever.  The Borrower further acknowledges that the principal
balance, accrued and unpaid interest, and late charges owed on each of the Notes
as of the Effective Date, is as follows:

 

Note

 

Outstanding
Principal Balance
as of June 30, 2010

 

Accrued Interest
as of June 30, 2010

 

Late Charges as
of June 30, 2010

 

Total
Principal,
Interest, and
Late Charges
as of June 30,
2010

 

Term Fixed

 

$

38,572,555.92

 

$

201,655.22

 

0

 

$

38,774,211.14

 

Term Note Libor

 

$

12,005,668.44

 

$

34,328.05

 

0

 

$

12,039,996.49

 

Term Revolving Note

 

$

1,155,872.24

 

$

3,305.02

 

0

 

$

1,159,177.26

 

Revolving Line of Credit Note

 

$

6,750,000.00

 

$

32,178.08

 

0

 

$

6,782,178.08

 

TOTAL

 

$

58,484,096.60

 

$

271,466.37

 

0

 

$

58,755,562.97

 

 

In addition to said principal and interest balances, the Lender has incurred,
and will continue to incur, costs and legal expenses as a result of the
Borrower’s defaults under the Loan Documents which amounts are, in accordance
with the terms of the Loan Documents, due and payable by the Borrower.

 

3.                                      Forbearance Period.  Provided that the
Conditions Precedent set forth below have first been satisfied and Borrower
complies with the terms of this Agreement, the Lender agrees (i) it will not
declare a default under the Loan Documents or enforce any remedies available to
it under the Loan Documents or applicable law on account of the Borrower’s
defaults beginning on the Effective Date, and ending on the earlier of an Event
of Default (as defined below) or December 31, 2010 (the “Forbearance Period”);
(ii) it approves the warranty settlement by and between Fagen, Inc. and the
Borrower, dated as of July 2, 2010 (the “Warranty Settlement”), provided that
all of the cash proceeds of the Warranty Settlement are used to reduce the
principal balance of Note Three; and (iii) it approves the sale of equity in the
Borrower in an amount of $4,500,000 to Project Viking, LLC, a Minnesota limited
liability company (the “Project Viking Sale”), provided that all of the cash
proceeds of the Project Viking Sale are used to reduce the principal balance of
Note Three.

 

4.                                      Conditions Precedent.  As conditions
precedent to the Lender’s forbearance, as set forth in the preceding paragraph,
the following agreements, documents, and other items shall have been executed
and/or delivered to the Lender, and the following events shall have occurred:

 

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a.                                       Execution and Delivery of Agreement. 
The Borrower shall have executed and delivered to the Lender this Agreement and
any other documents and agreements ancillary or incident hereto.

 

b.                                      Execution and Delivery of Warranty
Settlement Agreement.  The Warranty Settlement Agreement shall have been
executed and delivered by all parties and by all indicated signatories thereto
and a copy delivered to Lender.

 

c.                                       Execution and Delivery of Project
Viking Sale Documents.  The Project Viking Sale documents shall have been
executed and delivered by all parties and by all indicated signatories thereto
and a copy delivered to Lender.

 

d.                                      Other Documentation.  The Borrower shall
have obtained and delivered to the Lender any and all further documentation
reasonably requested by the Lender.

 

e.                                       Fees.  The Borrower shall have paid a
forbearance fee in the amount of $50,000.00 and all other costs and expenses
incurred by Lender in connection with the execution of this Agreement,
including, without limitation, reasonable attorneys’ fees.

 

5.                                      Interest Rates, Payment during
Forbearance Period and Deferred Interest.  The parties agree that the Loans
shall be repaid in accordance with the following terms:

 

a.                                       Interest.  Except as provided by
subsection 5(b), interest shall continue to accrue on the unpaid principal
balance of the Notes at the rates provided in the Loan Documents (including, as
applicable, interest at the Default Rate specified in the Loan Documents).

 

b.                                      Default Interest.  Upon the payment of
cash proceeds from the Warranty Settlement and the Project Viking Sale to the
principal balance of Note Three, the unpaid principal balance of the Notes shall
accrue at the contract rate specified in the Loan Documents, rather than the
Default Rate.

 

c.                                       Payments During Forbearance Period. 
During the Forbearance Period, the Borrower shall pay to Lender all periodic
payments of principal and interest required under the Loan Documents and this
Agreement on each Monthly Payment Date.

 

d.                                      Deferred Interest.

 

i.                                          Payment of interest accrued at the
Default Rate prior to the Effective Date (the “Deferred Interest”) shall be
deferred until the end of the Forbearance Period so long as the Borrower
satisfies all of the obligations of this Agreement and otherwise complies with
all loan covenants and payment obligations under the Loan Documents.

 

ii.                                       Provided that the Borrower complies
with all loan covenants and payment

 

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obligations under the Loan Documents, Lender agrees to accept payment of an
amount equal to fifty percent (50%) of the Deferred Interest at the end of the
Forbearance Period in full satisfaction of the obligation of the Borrower to pay
the Deferred Interest.  Upon such payment, the Lender shall waive the payment of
the remaining fifty percent (50%) of the Deferred Interest.

 

6.                                      Distributions During Forbearance
Period.  Notwithstanding any provisions contained in the Loan Documents,
Borrower shall not make, or cause to be made, any Distributions other than Tax
Distributions permitted by the Loan Documents during the Forbearance Period.

 

7.                                      Term Revolving Loan.  Notwithstanding
any provisions contained in the MLA or the Fourth Supplement, advances pursuant
to the Fourth Supplement and Note Two shall only be advanced for the purpose of
funding the Shaw engineering and mercury emission Remediation Project (the “Shaw
Remediation Project”).  Such advances shall not exceed $1,960,000.00. No
advances shall be made on the Term Revolving Loan until the Lender receives
“date-down endorsement” to its existing title insurance policy showing that
marketable fee title to the Real Property is in the Borrower, subject only to
the encumbrances specified in the Mortgage and any Permitted Liens and insuring
the Mortgage to be a first lien on the Real Property subject only to Permitted
Liens and encumbrances approved by Lender.  To obtain advances on the Term
Revolving Loan the Borrower shall submit to the Lender written draw requests and
project cost certifications in form and substance satisfactory to the Lender. 
Within three (3) Business Days of its receipt of such draw request, the Lender
shall notify the Borrower of its consent to or refusal of the requested Advance,
and, if approved by the Lender, shall disburse funds to the parties identified
in the draw request pursuant to the terms of the Lender’s consent of the draw
request.  The Lender assumes no liability for the accuracy of any certifications
presented to it nor for any request for Advances by the Borrower in violation
hereof or of the Loan Documents.  The Lender shall disburse all Advances on the
Revolving Term Loan in accordance with this Agreement to the person which is
entitled thereto, as set forth in the draw request.  Each such draw request
shall include a statement sworn to by the Borrower, listing the names,
addresses, and telephone numbers, the work, labor, and/or materials to be
supplied by, and the total estimated amounts to be paid with respect to the Shaw
Remediation Project.  Lender shall receive a general lien waiver from all
persons covering all disbursements made hereunder and an express lien waiver
from each supplier and sub-contractor having a contract with respect to the Shaw
Remediation Project in excess of ten thousand ($10,000.00) dollars through the
date of the immediately preceding disbursement to it hereunder; except for the
final disbursement, which shall be paid only upon receipt of all lien waivers
from contractors, subcontractors and suppliers.  The Lender shall not disburse
any Advance hereunder if there have been any changes in the status of title as
set forth in the title insurance which have not been consented to in writing by
the Lender and such change would have a Material Adverse Effect.  If any such
change has not been so consented to, the Borrower shall promptly and at its sole
cost and expense restore the status of title to that reflected in the title
insurance.  The draw requests, mechanics’ lien waivers, certificates, and any
and all other instruments or documents required to be delivered in connection
with an Advance shall be in form and substance reasonably satisfactory to the
Lender.

 

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8.                                      Revolving Line of Credit.  Provided that
the Conditions Precedent set forth in this Agreement are met by the Borrower,
Lender agrees to renew the Revolving Loan subject to the conditions and terms
set forth in the Second Amended and Restated Fifth Supplement to the master Loan
Agreement (Revolving Line of Credit Loan) and Third Amended and Restated
Revolving Line of Credit Note of even date herewith.

 

9.                                      Management Review.  The Borrower shall
retain an independent management and operations consultant reasonably acceptable
to the Lender to conduct a complete review of Borrower’s risk management,
marketing, operations and financial systems and procedures, and the Lender
hereby consents to such retention and the payment by the Borrower of the
consulting fees and expenses relating thereto.  Such consultant shall provide
the Borrower and the Lender with a written report summarizing its findings and
recommendations on or before October 31, 2010.  Borrower shall cooperate and
assist any such consultant, including, but not limited to permitting access to
its facilities and offices and to the books, records and reports related to the
operation of the Borrower’s business, wherever located.

 

10.                               Events of Default.  For purposes of this
Agreement, “Event of Default” means (a) any Events of Default under the Loan
Documents first occurring after the Effective Date, or at any prior date but
regarding which the Lender did not have actual knowledge (excluding Events of
Default relating to the matters for which forbearance is provided hereunder), or
(b) the occurrence of any one or more of the following:

 

a.                                       Payment Defaults.  Borrower shall fail
to pay, when due, any amounts required to be paid hereunder, including any
amounts owed on the expiration of the Forbearance Period.

 

b.                                      Nonmonetary Defaults.  Borrower shall
fail to observe or perform any covenant, condition, or agreement to be observed
or performed by them under this Agreement for a period of ten (10) days after
written notice, specifying such default and requesting that it be remedied,
provided however that no Event of Default shall be deemed to exist if, within
said ten (10) day period, Borrower has commenced appropriate action to remedy
such failure and shall diligently and continuously pursue such action until such
cure is completed, unless such cure is or cannot be completed within thirty (30)
days after written notice shall have been given.

 

c.                                       Bankruptcy.  Any party to this
Agreement shall file a petition in bankruptcy or for reorganization or for an
arrangement pursuant to any present or future state or federal bankruptcy law or
under any similar federal or state law, or shall have an order for relief
pursuant to 11 U.S.C. § 303 entered in any such proceeding brought by any other
creditor, or shall make a general assignment for the benefit of their creditors.

 

d.                                      Creditor Proceedings.  The commencement
of foreclosure or other proceeding to obtain possession of the Real Property
and/or the Collateral, whether by judicial

 

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proceeding, self help, repossession, garnishment, execution or any other method,
by any creditor of the Borrower.

 

11.                               Remedies.  Upon the occurrence of an Event of
Default (i) the entire unpaid balance of the Loans, including all unpaid
principal, accrued interest, default charges and costs and expenses incurred by
Lender in connection with the Loans, including attorney fees shall be
immediately due and payable by Borrower, (ii) the Forbearance Period shall, at
the option of Lender, terminate and Lender may, in its sole discretion, and
without further demand or notice to Borrower, protect and enforce all of its
legal, contractual and equitable rights and remedies under the Loan Documents or
this Agreement, (iii) the Lender may apply all amounts that Borrower has on
deposit with the Lender, including, without limitation, all escrowed funds, to
the payment of the outstanding principal balance, accrued interest, default
charges, and the costs and expenses of collection, including attorneys’ fees, in
such order as Lender may deem appropriate, and (iv) the Lender may seek, and
Borrower shall not object to, the appointment of a receiver for the Real
Property and the Collateral.  Each and every power or remedy herein specifically
given shall be in addition to every other power or remedy, existing or implied,
given now or hereafter existing at law or in equity, and each and every power
and remedy herein specifically given or otherwise so existing may be exercised
from time to time and as often and in such order as may be deemed expedient by
Lender, and the exercise or the beginning of the exercise of one power or remedy
shall not be deemed a waiver of the right to exercise at the same time or
thereafter any other power or remedy. No delay or omission of Lender in the
exercise of any right or power accruing hereunder shall impair any such right or
power or be construed to be a waiver of any default or acquiescence therein.

 

12.                               Waiver and Release.  To the extent any claims
or defenses may exist, Borrower, on behalf of themselves and their respective
successors and assigns, hereby forever and irrevocably release Lender and its
officers, representatives, agents, attorneys, employees, predecessors,
successors, and assigns, from any and all such claims and defenses, whether
known or unknown arising out of any acts or omissions occurring prior to the
date of this Agreement (including without limitation, those relating to late
fees currently outstanding or previously paid), provided that Borrower does not
waive any rights afforded it hereunder.

 

13.                               Effect of Agreement.  Except as expressly
provided in this Agreement, the Loan Agreement, the Notes, the Mortgage and the
Security Agreement remain in full force and effect in accordance with their
respective terms, and this Agreement shall not be construed to: (i) impair the
validity, perfection or priority of any security interest or lien securing the
Loans; (ii) waive or impair any rights, powers or remedies of the Lender under
the Loan Agreement, the Notes, the Mortgage or the Security Agreement; or (iii)
constitute an agreement by the Lender or require it to extend the Forbearance
Period, or grant additional forbearance periods.

 

14.                               Representations and Warranties.  The Borrower
represents and warrants to AgStar and Lender as follows:

 

a.                                       Borrower.  The Borrower is a limited
liability company duly organized and validly existing and in good standing under
the laws of the State of Minnesota

 

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and is qualified to do business in all jurisdictions in which the nature of its
business makes such qualification necessary and where failure to so qualify
would have a Material Adverse Effect on its respective financial condition or
operations.  The Borrower has the power and authority to own and operate its
assets and to carry on its business and to execute, deliver, and perform its
obligations under the Loan Documents and this Agreement.

 

b.                                      Execution.  The execution, delivery and
performance by the Borrower of the this Agreement is within the Borrower’s
powers, has been duly authorized by all necessary action, does not contravene: 
(i) the articles of organization or operating agreements of the Borrower; or
(ii) any law or any contractual restriction binding on or affecting the
Borrower, and does not result in or require the creation of any lien, security
interest or other charge or encumbrance (other than pursuant to the terms of the
Loan Documents) upon or with respect to any of its respective properties.

 

c.                                       Enforceability.  This Agreement is, and
each of the Loan Document to which the Borrower is a party are, or when
delivered will be, legal, valid and binding obligations of the Borrower
enforceable against the Borrower in accordance with their respective terms,
except as may be limited by applicable bankruptcy, insolvency, reorganization,
moratorium, or similar laws affecting the enforcement of creditor’s rights
generally and by general principles of equity.

 

d.                                      Litigation.  Except as specifically
disclosed in writing to the Lender, there is no pending or threatened action or
proceeding affecting the Borrower or any of the transactions contemplated hereby
before any court, governmental agency or arbitrator, which may materially
adversely affect the financial condition or operations of the Borrower.  As of
the date of this Agreement, there are no outstanding judgments against the
Borrower.

 

15.                               Miscellaneous.

 

a.                                       Recitals Incorporated.  The Recitals
set forth at the beginning of this Agreement are deemed incorporated herein, and
the parties hereto represent they are true, accurate and correct.

 

b.                                      Governing Law.  This Agreement shall be
governed by and construed in accordance with the laws of the State of Minnesota.

 

c.                                       Severability.  If any provision of this
Agreement shall be invalid, illegal or otherwise unenforceable, such provision
shall be severable from the remainder of such agreement and the validity,
legality and enforceability of the remaining provisions shall not be adversely
affected or impaired thereby and shall remain in full force and effect.

 

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d.                                      Counterparts.  This Agreement may be
executed in two or more counterparts, all of which shall be considered one and
the same agreement and shall become effective when two or more counterparts have
been signed by each of the parties and delivered to the other parties.

 

e.                                       Entire Agreement.  This Agreement and
the Loan Documents set forth the entire agreement between the parties pertaining
to the transactions contemplated by this Agreement.  This Agreement may be
amended or modified only by a written instrument signed by the party against
which enforcement is sought.

 

f.                                         Revival.  If the incurring of any
debt or any payments of money or transfers of property made to the Lender by or
on behalf of the Borrower contemplated by this Agreement or the Loan Documents
(collectively, the “Transfer”) should for any reason subsequently be declared to
be “voidable” or “avoidable” within the meaning of any state or federal law
relating to creditor’s rights, including , without limitation, as fraudulent
transfers, preferences or otherwise voidable or recoverable payments of money or
transfers of property, in whole or in part, for any reason under the Bankruptcy
Code or any other federal or state law, and Lender is required to repay or
restore any Transfer, or the amount of any portion thereof, or upon the advice
of its counsel is advised to do so, then, as to any such amount repaid or
restored (including reasonable costs, expenses and attorneys’ fees of the Lender
related thereto), the liability of the Borrower shall automatically be revived,
reinstated and restored and shall exist as though such Transfer had never been
made.

 

IN WITNESS WHEREOF, the parties hereto have caused this agreement to be duly
executed and delivered as of the date and year first above written.

 

 

July 2, 2010

HERON LAKE BIOENERGY, LLC,

 

a Minnesota limited liability company

 

 

 

 

 

By

/s/ Robert J. Ferguson

 

 

Its:  CEO

 

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Dated: July 2, 2010

AGSTAR FINANCIAL SERVICES, PCA,

 

a United States instrumentality,

 

 

 

 

 

By

/s/ Mark Schmidt

 

 

Mark Schmidt

 

 

Its:  Vice President

 

[Signature page to Forbearance Agreement]

 

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