The government has been responding swiftly with a range of interventions including: business rate holidays, government-backed loans and rules to prohibit the eviction of commercial tenants impacted by the virus.
As the crisis continues it is highly likely that more will be needed. Promises of future initiatives, whilst details are ironed out by the government, are of little help to businesses that are facing cashflow issues now. Finance parties need to take stock of their position as soon as possible, so that they can approach these challenging months ahead in an informed and decisive manner.
Lenders and borrowers need to rapidly assess their legal positions outlined in their loan documentation. It is crucial that an open dialogue is established between the parties as swiftly as possible, as this will improve the chances of a mutually beneficial outcome to these unprecedented events.
What do the loan documents say and what are the other legal considerations?
The first step is to revisit the loan documentation and consider a number of boilerplate clauses that may be triggered by current events:
Loan to Value and Debt Service Cover
The most immediate concern for both parties will be the issues surrounding cashflow and the ability to service interest payments. Valuations are likely to be hit (depending on the asset) - assuming they can be updated in this current climate of social distancing. Cure rights, in the form of pre-payment or grant of further security (assuming the borrower can afford to exercise them) could provide a temporary solution whilst the parties hope for the situation to improve. Far more likely is that the parties will need to have a timely and open conversation regarding income forecasts, valuations and whether breathing-room can be provided to the borrower whilst the lender reserves its rights.
Material Adverse Change (MAC)
Most loan documents contain a clause covering a situation where there has been a material adverse change in, or effect on, the borrower’s business, operations or assets (a MAC clause). Lenders tend to use MAC clauses as an additional breach to add into the mix alongside clearer events of default such as a financial covenant breach. Whether COVID-19 can be interpreted as causing a material adverse change on a borrower’s business will ultimately need to be considered in terms of the specific impact it has on the business. Lenders should act with caution however, as the long-term impact of COVID-19 remains uncertain, albeit with the assumption that certain sectors (retail, leisure etc.) will continue to suffer more from changes brought about by the pandemic than others.