Credit Agreement Negative Covenants
Mergers and acquisitions are often used by lenders as non-financial obligations, in order to avoid significant effects on cash flowCash Cashh Flow (CF) is the increase or decrease in the amount of money of a company, institution or individual. In finance, the term is used to describe the amount of cash (money) generated or consumed during a given period. There are many types of CF from the borrowing party. The activities may or may not affect the borrower`s ability to repay the loan. As soon as an agreement is broken, the lender usually has the right to recall the borrower`s obligation. In general, there are two types of covenants that are included in credit agreements: affirmative covenants and negative covenants. Operational covenants often require borrowers to maintain their physical assets to certain standards, meet minimum disclosure requirements, engage only in licensed activities, or maintain a certain level of assurance. As a general rule, the more negative covenants there are when a bond issue is issued, the lower the interest rate on the debt will be, because restrictive covenants make bonds safer in the eyes of investors. A negative agreement is a promise made by a company not to exceed certain financial ratios or not to carry out certain activities. Negative covenants are almost always found in credit or loan documents. Negative covenants are introduced to encourage borrowers to refrain from any act that could degrade their creditworthiness and their ability to repay existing debts. The most common forms of negative covenants are the financial ratios that a borrower must maintain at the time of closing.
For example, most credit agreements require a total debt-to-a-certain income ratio to not exceed a maximum amount, ensuring that a company does not take on more debt than it can afford. In an employment contract, a non-competition clause prevents a worker from competing directly with the employer for a specified period of time and within a given geographical area. .