Warning on lending covenants as businesses hit by third lockdown

Investment funds may use Covid-related breaches of covenant to take control of assets

Investment funds that snapped up billions of euro of Irish property and business loans after the financial crisis may use Covid-related breaches of loan covenants to take control of assets this year as a third lockdown hits the economy, according to a leading insolvency expert.

It comes as mainstream lenders have temporarily eased swathes of lending covenants to help businesses get through the worst of the pandemic, according to banking and loan restructuring sources. Lending covenants are terms attached to loans that allow lenders to demand immediate repayment if certain targets such as earnings or an asset value fall below a certain level, relative to the size of borrowings.

"I have seen some SMEs being reminded in recent times of potential covenant breaches by funds," said Neil Hughes, insolvency practitioner and managing partner of Baker Tilly Chartered Accountants in Ireland, who declined to give details of specific cases.

“There is a big concern that some of these may take a hostile approach and try to take over underlying assets under a loan-to-own strategy. The motivations of these funds are changing all the time.”


Full repayments

Of the 33,000 SME loan accounts that availed of Covid-19 payment breaks on €5.5 billion of loans last year from banks, fewer than half had returned to making full payments on their original loan terms by the end of November, according to Banking & Payments Federation Ireland data. Some 5.7 per cent are not making full repayments, while a further 45.4 per cent are repaying on an extended term.

Hotels, non-food retail, retail property, leisure and entertainment industry businesses have been the worst affected by the coronavirus crisis.

“Payment breaks were the big headline-grabber last year, but we would have put a lot more work and effort into providing temporary covenant waivers to large SMEs and corporates in certain sectors than payment breaks,” said a senior banker, who declined to be identified or give details of the extent of covenant relief his company has granted.

Pandemic supports

Government pandemic supports for businesses – including €4.5 billion of wage subsidies, the warehousing of €1.9 billion of tax debts and €173 million of payments to businesses hit by restrictions to date – as well as bank payment breaks and rent deals with landlords, have alleviated cash flow strains across SMEs. However, earnings slumps have led to lending covenant issues.

"Covenant waivers are allowing banks to look through near-term issues caused by Covid-19 if they can see better long-term prospects for businesses," said Diarmaid Sheridan, a banking analyst with Davy. "Regulators from the outset of the crisis have been keen to see forbearance for households and businesses during the crisis and not have wholesale loan workouts."

Tom Dane, a partner with McCann FitzGerald who advises both lenders and investors on real estate finance deals, said: "The banks have been granting covenant waivers on a case-by-case basis throughout the pandemic and have been very supportive. I don't see that changing – particularly among the mainstream banks.

“Alternative lenders may have different goals or considerations, but our experience is that ultimately they have been supportive too.”

Joe Brennan

Joe Brennan

Joe Brennan is Markets Correspondent of The Irish Times