In my last post I discussed the content and negotiation of an engagement letter with the lead bank in a commercial syndicated loan transaction. I mentioned that one of the key elements of the engagement letter is a proposed summary of the terms and conditions of the credit facility which will have been negotiated during the period prior to the signing of the engagement letter and should be attached as an exhibit to the engagement letter. While some parties will use a short-form summary of terms and conditions and provide that everything else will be "as is customary," the better practice from the borrower’s perspective is to insist on a detailed description of the proposed provisions in those areas that are of greatest concern to the borrower. The time to iron out potentially sticky issues with respect to covenants and borrowing base is before the engagement letter is signed, not afterwards. In fact, counsel for the borrower may demand that certain key definitions, such as the definition of "accounts receivable" and "inventory" for the borrowing base, actually be agreed on in advance and included as an appendix or exhibit to the summary of terms and conditions.
Regardless of its length or level of detail, the summary of terms and conditions of the credit facility will usually cover the same standard set of issues and terms. Obviously, the size of the credit facility (i.e., the maximum amount that can be borrowed) will be specified along with the term of the facility and the identity of any guarantors (e.g., a parent of the borrower and/or material subsidiaries of the borrower). The fees and expenses associated with the credit facility, including the interest rate, commitment fees and other charges, should be set out in detail. The availability of sub-facilities for letters of credit and foreign currency loans should also be described. Reference will be made to the collateral for the loan, typically accounts receivable and inventory of the borrower meeting specific conditions established by the lenders. Financial and operating covenants should also be described in the terms and conditions, and this is an area where the borrower may also require more detailed language to ensure that it understands all of the restrictions that might be imposed on the operation of the business while the loan is outstanding. The borrower will be required to prepare and submit various financial reports and notices and certifications relating to the events associated with its business and the value and condition of the borrowing base. Finally, the terms and conditions will touch on the circumstances that might trigger acceleration of payment of the outstanding balance of the loan (e.g., default by the borrower or bankruptcy or other material adverse change in the business or financial condition of the borrower).
The engagement letter, as well as the summary of terms and conditions, will include a list and brief description of the key conditions precedent to the obligation of the lenders to close the credit facility. In addition to completion of the due diligence investigation, the results of which must be satisfactory to the lenders, it is common to require an audit of the proposed collateral for the loan (i.e., accounts receivable and inventory), updated financial information, an opinion of counsel for the borrower, certifications from officers of the borrower regarding various factual matters and the absence of any material adverse change in the financial or business condition of the borrower and completion of arrangements to pay off certain existing debts of the borrower. In addition to the credit agreement, the parties will need to negotiate, prepare and execute the documentation necessary to perfect the security interest of the lenders in the assets of the borrower. If there are existing liens on those assets, they will need to be removed or, in some cases, subordinated in accordance with documentation satisfactory to the lenders.
Negotiating the engagement letter and summary of terms and conditions can take several weeks, or even months, depending on the number of prospective lenders involved and the urgency for the borrower in enlarging its credit facility. It is generally a good idea for the borrower to begin the process well in advance of the termination date of an existing credit facility to allow sufficient time to consider all the alternatives. Once the engagement letter and summary of terms and conditions have been finalized, the syndication process moves forward and the borrower will provide information to prepare a disclosure document, sometimes referred to as a "bank book," that will be circulated to prospective syndicate members. Prospective syndicate members will attend presentations by the senior managers of the borrower; and, as the syndicate comes together, discussions will occur regarding the proposed terms and conditions. While hopefully the terms and conditions in the final credit agreement will mirror those described in the summary, the engagement letter will make it clear that the final terms and conditions will be determined by negotiations with the other banks. If it appears that there will be problems putting together the syndicate based on the terms and conditions in the summary, the lead bank may return to the borrower to discuss necessary changes; however, the borrower would not be obligated to accept those changes nor would the lead bank be liable to the borrower if the marketplace is unwilling to agree to the terms and conditions demanded by the borrower.
The content in this post has been adapted from material that appeared in Business Counsel Update (October 2006) and is presented with permission of Thomson/West. Copyright 2008 Thomson/West. For more information or to order call 1-800-762-5272.