Bank covenants are agreements between an entrepreneur and a bank included in the financing documentation. The agreements set specific conditions that the entrepreneur must meet during the term of the loan. The bank uses covenants to limit its risk and ensure that the loan is repaid. There are different types of bank covenants, which can vary depending on the specific financing and the circumstances of the entrepreneur. The covenants below are common:
- Financial ratios: requirements that you maintain certain financial ratios, such as the solvency ratio, liquidity ratio and profitability ratio.
- Disclosure requirements: you have to provide the bank with regular financial information, such as financial statements, management reports and budgets.
- Restrictions on investment and disinvestment: You cannot make major investments or disinvestments without the bank's permission.
- Restrictions on dividend payments: this covenant restricts you as an entrepreneur from paying dividends to shareholders.
- Restrictions on taking on new debt: there are restrictions on taking on new debt without the bank's consent.
What if you don't follow the rules?
Failure to comply with bank covenants can have various consequences. For example, the bank can increase interest rates, demand the loan, claim additional collateral and impose a fine.
Tips
- Make sure you understand the covenants: it is important to fully understand the covenants contained in the financing documentation.
- Negotiate with the bank: if you think the covenants are too strict, you can try to negotiate more flexible terms with the bank.
- Stick to the covenants: Avoid problems with the bank and stick to the covenants.
- Communicate with the bank: Are you having problems complying with the covenants? Then communicate openly and honestly with the bank.
Engage an adviser! Xolv Finance can help you with this.
