Events of default and other risks for borrowers with commercial loans

Key Risk Factors in Commercial Loan Agreements

Commercial loan agreements often contain provisions that can trigger certain events, leading to adverse consequences for the borrower.

We have a team of highly experience commercial lawyers who advise on commercial loans. For borrowers, our role is to ensure our clients understand fully the detail and implications of lender drafted loan documentation and where possible to negotiate to reduce the risks/

These risk factors can include:

Events of Default

Commercial loan agreements are often drafted by the lender such that a technical default can result in severe consequences for the borrower, such as being required to immediately repay the loan in full and where that is not feasible and the loan is secured, to enforce security over assets.

The list below is just a few examples of potential events of default which are express terms in loan documents :-

• Non-payment - failure to make timely payments of principal or interest.

• Breach of covenant - violation of any financial or operational covenants included in the loan agreement.

• Financial distress - indicators of financial difficulties, such as bankruptcy or insolvency proceedings.

• Material adverse change - a significant negative event affecting the borrower's business or financial condition. There can be a wide range of events included depending on the loan and the borrower, it’s business and the sector it is in. Financial changes which can be defined as material advance changes can include debt to equity ratio, interest coverage, working capital.

• Conversion risk: where the loan is a convertible loan, the terms of the  loan may give the lender the right to convert the loan into equity, potentially diluting the borrower's ownership stake even to the point the borrower may end up as minority shareholder.

• Interest rate risk: The risk that interest rates may rise, increasing the cost of the loan.

Other Tripwires

• Cross-default: Provisions that allow the lender to accelerate the loan if the borrower defaults on other obligations.

• Negative pledge clause: A provision that restricts the borrower's ability to pledge assets as security for other loans.

• Guarantees: Personal guarantees provided by the borrower's directors or shareholders.

• Security interests: Collateral pledged to secure the loan, such as property or equipment.

It's crucial for borrowers to carefully review the terms of their loan agreements and understand the potential risks associated with these provisions. By proactively addressing these risks, borrowers can help mitigate their exposure and improve their chances of successfully managing their loan obligations.