Covid 19 has brought serious implications to present day financial contracts/facility agreements, requiring lenders and borrowers to contemplate adjusting their terms and any additional leeways to prevent events of default from kicking in. Such moves have included governments and central banks asking other banks to grant compulsory moratoria to borrowers, reduction of interest rates on intervention facilities, etc.
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Prior to this, a lot of small and medium scale businesses had shut down or reduced their availability, with little to no access to working capital. Now, with the ease in the lockdown regulations, a lot of businesses require additional funding. Foreign governments such as the United States have provided some company reliefs and packages to help deal with the unemployment and job losses, while in the UK there is the availability of bounce back loans, 100% backed by government. However, for companies in America to qualify for government relief, certain requirements including the postponement of dividends for at least year, and human resource restrictions, etc. also apply.
In Nigeria, there are palliative measures provided by the government, including the set up of funds to cater to industries that bear the brunt of the pressures from the covid pandemic, as well as credit facilities for SMEs affected by the corona outbreak. The CBN has allowed for a one year moratorium (grace period) on the repayment of its intervention facilities availed through other financial institutions. Also, the interest rates on those facilities were reduced from 9% to 5%, and those financial institutions have been granted leave to restructure the tenor and loan terms for households and businesses affected by Covid 19.
With the effects of the pandemic being so wide reaching, spiking a demand in the sources of finance for businesses, private equity funds, capital market companies, and other covid specific funds have not been left out in providing lending options to save flailing companies. In order for these funds to be able to provide working capital funding for businesses, the businesses must be ones that can still function in the midst of covid 19 to the point of expanding. Thus, they can expand in the face of covid. Such businesses ideally would be in the sectors of health and pharmaceuticals, e commerce, FMCG, home hygiene, online gaming etc.
It is however important that when finalising loan agreements, the following terms must be ironed out by the parties:
- REPRESENTATIONS AND WARRANTIES
The borrowing company must be able to make representations and warranties with regard to its legal status, capacity, object, solvency, collateral (security), etc. while putting into consideration the present covid 19 limitations. The representations must remain true and correct at all times.
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2. COLLATERAL/SECURITY
In light of the fact that SMEs may have limited collateral in terms of land, the parties should ensure that the agreement is drafted in such a way that the borrower is not allowed to pledge the same collateral to another lender. Where he does, the agreement should provide that such a move would trigger an event of default, acceleration and repayment. Where a lender is comfortable with sharing collateral, this should be clearly stated in the facility agreement.
3. PURPOSE CLAUSE
The loan agreement should state clearly what the loan is for, whether for equipment or working capital, and that the loan should be utilised solely toward its stated purpose.
4. MATERIAL ADVERSE CHANGE
Getting into a facility agreement in these covid times means that the borrower’s business is capable of running fairly steadily amid inconveniences. However, a material adverse change such as a change in the financial condition in the borrower’s going concern should be inserted to allow the lender accelerate the repayment of the loan. The parties should clearly define what constitutes a material adverse change, given that the covid 19 pandemic may qualify as a material adverse change in any facility granted prior to it.
5. FINANCIAL COVENANTS
The borrower should definitely understand all the financial ratios that it is to maintain and consider if it can meet them in the midst of the ongoing pandemic. Key ratios such as the current, liquidity, solvency, return on investment, efficiency ratios would help lenders keep up with the borrower and determine how well it is performing, and even determine they would need further draw downs. Clauses to ensure that financial reports are provided by the borrower should be included in the agreement. Cure periods may be inserted to allow the borrower regain its position.
6. DISRUPTION EVENT CLAUSE
Even though these loan agreements are entered in the middle of the covid 19 pandemic, the disruption event clause could still make allowance for a short grace period to enable the borrower avoid default because of set backs other than covid 19 such as a technical problem or system malfunction.
7. CROSS DEFAULT
In these covid times, lenders should be mindful in extending facilities to borrowers that already have existing loans, as this increases the possibility of default in those loans and/or the present facility. But where lenders are comfortable in doing so, clear threshold values should be set for when this default will be triggered.
8. CESSATION OF BUSINESS CLAUSE
Cessation of business may be an event of default in facility agreements. However, it is to be clear that is a permanent cessation, not temporary cessation that constitutes an event of default. This is very important, as the borrower’s business remaining a going concern is necessary to secure the repayment of the loan.
CONCLUSION
The grant of additional facilities in these covid times require that borrowers are quick to own up to inadequacies, maintaining full disclosure in the course of the lending periods and lenders are hesitant in calling defaults and more inclined to waive breaches in order to allow borrowers save their businesses. However, the waive of breaches might result in additional fees to be paid by the borrowers to the lenders.
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References
- A. Mcknight, The Law of International Finance
- P. Wood, Law and Practice of International Finance
- Ref. FPRD/DIR/GEN/CIR/07/050
- Investopedia, ‘Covid 19 Government Stimulus and Financial Relief Guide’ https://www.investopedia.com/government-stimulus-efforts-to-fight-the-covid-19-crisis-4799723 accessed 15 May 2020