As we enter into uncertain economic times, we consider the early warning signs and options available to lenders in potential enforcement scenarios and what may affect the ability of borrowers to perform their obligations under a loan facility.

A lender’s perspective

Where a borrower is in default, or could potentially go into default, a lender may wish to consider alternatives to enforcement for a number of reasons, not least being the cost. When contemplating a default, the lender should consider the following:

• Undertake a review of the borrower’s financials by utilising available reporting and information undertakings to determine any potential failures to comply with financial covenants in the loan and security documentation.
• Ensure the lender has assembled all originals, or at the very least electronic copies of all loan and security documentation, to ensure all is in order and correctly entered.
• One or more events of default must have crystalised before the lender is able to exercise their rights under the loan and security documentation and at law. The most common and straight forward event of default is non-payment, whereas other events of default such as material adverse change may be much more difficult to prove in practice.
• Review and confirm insurances over property or other secured assets are in place and in full force and effect and all premiums have been paid.
• Consider the importance of taking legal advice regarding notices and the preparation of demand notices, jurisdictions involved, sale procedures, duration and expense and, above all else, priorities between mortgagees and any other potential creditors.
• In addition to taking enforcement action against the borrower, lenders may make a demand under a guarantee or other security for the full repayment of all outstanding amounts by accelerating the loan in accordance with the facility agreement.
• If account security is part of the security package, instruct the account bank to put a stop on all accounts so no money can be withdrawn without the consent of the lender.

A borrower’s perspective

When a borrower is facing difficult times which may lead to a potential default scenario, the borrower should:

• Undertake a full review of the borrower’s obligations and undertakings under their finance documents to determine any potential breaches which may arise due to financial difficulty or as a result of market conditions.
• Consider any potential cross defaults that may be triggered under other facilities, if applicable.
• Undertake a review of all income streams and contracts to determine where issues may arise.
• Undertake a review of any potential restructuring or standstill agreements that may be required and the costs involved.
• Consider whether the appointment of a receiver or administrator may be necessary and consider any director liabilities.

In summary, it may also be prudent for a borrower to open up discussions with the lender early. Many lenders have recognised that, as creditors, they can often achieve better returns through supporting their borrowers through an orderly restructuring of the debt of a company facing financial difficulties than by forcing it into a formal insolvency by, for example, enforcing their security and attempting to sell property or other assets.

Finally, parties should always consider contacting a banking and finance lawyer to assist with a review of their documentation and to discuss options available to each party.