COVID-19: Impact on borrowers
COVID-19 will no doubt cause many businesses issues which impact their financing arrangements and obligations.
Therefore, now is the time is to be aware of and understand, at least at a high level, the provisions in loan agreements which are likely to be key in the current climate. Events of default and material adverse change (MAC) provisions are likely to be the most relevant.
EVENTS OF DEFAULT
Borrowers may find they trigger certain of the default provisions in their loan agreements or other commercial contracts as the impact of COVID-19 is felt. Default provisions in a company’s loan documentation will include a company’s failure to comply with its repayment obligations or the financial covenants. Additionally, default provisions in loan agreements tend to include widely drafted insolvency defaults which extend beyond situations where an insolvency practitioner is appointed or a winding up petition is made. These provisions tend to have a much lower threshold as to what constitutes an insolvency and will include informal compromises of debts and rescheduling of repayments.
MAC clauses typically permit a lender to call in a loan where there has been a material adverse change in a borrower’s operations, future prospects or in the ability of a borrower to meet its other obligations under a loan agreement. Given their catch all nature, MAC clauses are deliberately drafted to cover a wide range of circumstances. It could be argued that COVID-19 related business disruption falls within the scope of MAC clause.
It would, however, be unusual for a lender to enforce a MAC clause, due to uncertainties around enforceability. MAC clauses can be bespoke and need to be interpreted on a case-by-case basis and by close reference to the current circumstances. A MAC clause which contains an element of subjectivity in relation to the opinion of the lender is likely to be more enforceable than a clause which is more objective.
The triggering of a default provision will not necessarily lead to a lender requiring its loan to be immediately repaid. However, if a demand is made, the borrower must be aware of the consequential considerations, such as cross-default provisions in other loan agreements or contracts and any obligation to notify third party creditors of events of default. These third party creditors may then cease to provide further credit or call in their debts.
Banks are unlikely to act aggressively in relation to COVID-19 related breaches of loan documentation and will likely take an understanding approach which could come in the form of:
- waiving events of default
- agreeing amendments to financial covenants
- rescheduling payments or offering repayment holidays
- the provision of emergency short term funding
- the provision of information regarding Government schemes
In addition to the above, financial institutions will take a leading role in deploying the Government’s announced suite of financial assistance to businesses, including the Coronavirus Business Interruption Loan Scheme (“CBILS”) which is to offer loans of up to £5 million and for a duration of up to 6 years to SMEs through the British Business Bank. While borrowers under this scheme will remain liable for the debt, it is intended that the Government will cover lender-levied fees and interest charged by banks for the initial 12 months of the loan.
There have been concerns surrounding the timing of implementation and the complexity of utilising the above Scheme and other means of financial assistance. Commentators have stated that if the schemes were to involve complex paperwork or lack adequate instructions as to how to access the funds, they may be of little use with the time the aid was needed having passed. The Government’s plan will need to adapt and be implemented with expedience as the situation continues to evolve.
As financial institutions will be playing a fundamental role during this time, the Bank of England has published a statement on the measures it and the PRA are taking to alleviate operational burdens for authorised firms and supervised financial market infrastructures. These are to include:
- cancelling stress tests for the UK’s largest banks and building societies
- delaying surveys into open-ended funds
- delaying implementation of certain reforms
The Government’s plans to support businesses at this time are welcomed. It is understood that the CBILS is due to take effect as of 23 March 2020 and more information about making applications can be found here. It will be imperative for all parties to communicate early and often in navigating various scheme utilisation moving forward.
We are here to help during this challenging time for us all.
GET IN TOUCH
If your business needs legal support with any issues arising from COVID-19, please get in touch with Jody Bingham, Sean Halliwell or Frank Bouette with any questions you may have about your financing arrangements, directors’ duties or otherwise.
This article was prepared with the assistance of David Lim.
All information in this document is accurate at the time of writing. It is meant for general information only and is not legal advice.