Negotiating a loan agreement for your business
In order to grow your business often external financing is needed. External financing comes in the form of investment, usually equity, and debt which is documented by a loan agreement. There are different advantages and drawbacks in each of these methods, and, quite often, debt might not be an option for a smaller business. However, if your business has a history of growth and expanding or stable revenues debt might be a good solution as it allows you to spread the financial risk whilst capturing most of the upside. Negotiating a loan agreement for your business is one of the most important business decisions you will take.
The typical bilateral loan agreement goes through the main phases below:
This document is important for a couple of reasons. It serves as a framework for the future negotiations of the loan agreement; it is also a concrete understanding of the commercial discussions that have taken place to date. Even though this document is not legally binding – it mostly serves as a letter of intent – getting it right is very important if the negotiation phase is to be quick and efficient which can help reduce the legal costs. Also, part of the conversations around this document will be any personal guarantee(s) that the lender would require in order to proceed with the financing.
During this phase the lender will require certain documents and conduct certain inquiries in relation to the borrower, its directors and any affiliated companies. Inquiries will have to include searches at Companies House and the Central Registry of Winding Up Petitions; if security taken over real property then carry a search on the title of the property at Land Registry. If security is taken over shares, the company’s constitutional documents would have to be reviewed to ensure that the security will be effective and there is not right of refusal to register the shares.
Negotiation of finance documents
This is by far the most important and longest phase. Usually the lender’s lawyers draft the Facility Agreement based on the term sheet and the borrower’s lawyers make changes to improve their client’s commercial and legal position.
Main points in the Facility Agreement are the following:
- The type(s) of the loan facility and its purpose.
- The availability of the facilities and the number of utilisation requests.
- The interest rate charged by the lender (floating/fixed/margin/ratchets).
- Repayment of the facilities (including provisions relating to prepayment and cancellation).
- The conditions precedent which the borrower (and other relevant obligors) must satisfy before drawdown.
- Permitted use of funds and restrictions on distributions (such as dividends) and further indebtedness.
- Security taken, guarantees given and enforcement procedures.
- Representations, covenants and events of default.
- Increased costs, tax, fees and other costs.
Following the negotiation and once an agreement is reached focus turns to the agreed conditions precedent and their satisfaction.
Usually these are:
- Constitutional and company documents such as, a copy of the constitutional docs of the Borrower, a copy of the resolutions duly passed by the board, a sample of the signature of each person authorised to sign, a certificate signed by a director confirming that borrowing the total amount would not mean any borrowing or similar limit binding on the Borrower would be exceeded, a certificate signed by a Director certifying that each document provided is correct, complete and in full force at a date no earlier than the date of this agreement.
- Duly executed Finance Documents
- Financial information such as latest available audited financial statement or Original Financial Statements, a copy of Borrower’s unaudited financial statements for the trading period ended AND perhaps a pro form opening balance sheet of the Borrower as of the Drawdown Date. And all information required by Lender to complete the KYC or similar identification procedures under applicable law and regulations.
- Legal Opinions
- Other documents and evidence such as, certified copies of deeds of release for all outstanding security (other than security that is permitted under the loan agreement) granted by the Borrower, payment by borrower of all fees and expenses incurred by lender and payable by the borrower, certified copy of any power of attorney under which the borrower may execute this agreement, copy of any other authorisation, document, opinion or assurance which the lender considers necessary.
Completion (virtual signs and closings)
Upon completion the loan agreement is, or will be, effective on a specific date. Funds are transferred on the date of signing or on the effective date, if that is an agreed future date. The solicitors will exchange the final documents, and if this is done by virtual signing, those documents with be engrossed with the signature pages that were exchanged over email.
Your lawyer should also attend to post-completion matters such as, the physical exchange of original documents, perfection and registration of security, any conditions subsequent, any solicitors’ undertakings, completing or reviewing the transaction bible, sending notices to account banks, insurers or relevant contract counterparties. Some of above come with strict deadlines and care should be taken that these are met as non-compliance might have substantially negative effects on legal rights.
Negotiating a loan agreement for your business is crucial in the long term and the risks of providing personal guarantees or personal assets cannot be overstated. What appears as a cheap loan might turn out to be very dear if the right protections are not included in the loan agreement.
Further, besides bank loans, there are family loans or loans from friends. In these situation the loan document may be slightly more informal. However, just because it is a family loan agreement it does not mean that the care should not be taken to ensure everything goes smoothly in the future, and, in case it does not, what happens is clearly provided for so there is less room for arguments. A lending money contract is always an important document and should be properly drafted by a legal professional. If you would like some help negotiating a loan agreement for your business please get in touch.
If you want to discuss further with us please feel free to contact us.