Access to existing debt facilities is one of the many potential impacts of the COVID-19 pandemic on the operations and financial health of organizations worldwide. In this article, we identify certain key risks and issues, along with pragmatic and legal steps that organizations can take to address their existing credit relationships and navigate through this difficult period.
- Review and assess the risks of going offside financial covenants and the scope of their potential runway
- Assess operational capacity to comply with reporting requirements
- Establish and maintain frequent and open dialogue with lenders about covenant compliance
- Consider whether the impact of COVID-19 on their businesses, operations and financial results may constitute a Material Adverse Effect (MAE) or Material Adverse Change (MAC), or trigger a mandatory repayment under their facility agreements
- Assess their tolerance level for extensions and general flexibility on a portfolio-wide basis—it will not be practical to enforce the lender’s rights with respect to as many facilities as will likely be triggered by a MAE/MAC default in these circumstances
- Be cautious about compliance with drawdown conditions
- Keep a close eye on quick-shifting regulatory changes that may impact decision-making on a deal-by-deal basis
- Review and note deadlines for enforcement, and avoid inadvertent waivers of rights
- Decisions to draw – Borrowers will need to balance increased liquidity needs during this time with their ability to maintain healthy debt levels and stay onside their financial covenants.
- Negative interest rates – Review the interest rate definitions in credit facilities. Most agreements will provide that in the event a reference rate (such as CDOR or LIBOR) falls below zero, it will be deemed to be zero for the purposes of the agreement.
- Mandatory prepayment triggers – These may include repayments from the proceeds of asset sales or insurance proceeds, in addition to any overdrawn amounts. Borrowers should consider whether the actions they are taking to respond to the current circumstances might inadvertently trigger these requirements.
- Covenant compliance:
- Financial covenant compliance (maintenance of net equity, cumulative minimum earnings, debt to equity ratios, working capital ratios, interest coverage ratios) – Compliance with financial covenants will impact borrowers’ ability to draw on their facilities, and may trigger interest rate increases or events of default.
- Practical roadblocks to fulfilling reporting covenants – As companies pursue remote work models and other creative solutions to ensuring the health and safety of their workforce, their operational capacity to provide the required financial reporting to lenders may be affected. Open communication about these challenges and setting realistic timelines for compliance is critical.
- Default risks:
- Extensions on payments due – Borrowers should continually assess their ability to make payments and maintain open communication with lenders about upcoming, at-risk payments.
- Material adverse effect – Review and confirm whether the definitions of MAE/MAC in facility agreements have carve-outs for the impact of macro-economic circumstances or force majeure (note that this is more common in project or real property financing than it is in standard operating facilities).
By Laura Fric, Joyce M. Bernasek, Elizabeth Mpermperacis andSandy Hay, Osler
- How much should a Canadian registered charity spend on administration? - November 30, 2022
- Finance proposes changes to disbursement quota for charities and some increased transparency - November 11, 2022
- Budget Implementation Act passed allowing certain additional charitable partnerships - July 21, 2022