Drafting And Negotiating Negative Covenants

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[The Credit Agreement] [Representations, Warranties and Covenants] 1. Affirmative, Negative and Financial Covenants 2. Drafting and Negotiating Negative Covenants (Credit Agreement) The negative covenants and the related definitions are among the most heavily negotiated provisions in a credit agreement. In order to get comfortable funding loans to a borrower, lenders require restrictions on a borrower’s operations that will hopefully help keep management on a path that will allow them to repay the loans at maturity. Lenders also use the negative covenants as an early warning system that forces borrowers to seek amendments from lenders before materially altering their business operations in a way restricted by the covenants. By…show more content…
Generally, each negative covenant has the same basic structure: a general prohibition followed by listed exceptions referred to as baskets or carve-outs. The exceptions can be divided into exemptions for specific types of transactions and general baskets that provide greater flexibility but are usually subject to caps. The negotiation of negative covenants at the business level is often is focused on the appropriate dollar caps and restrictions on the general baskets and any unique company-specific exceptions the borrower may request. There is no one suite of negative covenants and exceptions that will work for every borrower and will need to draft customized exceptions where necessary to ensure that the credit agreement allows the borrower to operate normally without constantly having to check the credit agreement to make sure they have not inadvertently violated its terms. In negotiating the exceptions, counsel for each of the borrower and the lenders should perform diligence to understand the operational needs of the borrower as well as its capital structure and its near term plans for growth. The arrangers will perform their own business and financial diligence to determine what protections the lenders will need in order participate in the transaction and, ultimately, the arranger’s view on what is marketable at the proposed
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