This lesson examines the legal documentation required for lending and the use of covenants to protect the lender’s position.

7.1 The Purpose of Loan Documentation

Loan documentation formalises the loan agreement and provides a clear framework for the borrower’s obligations and the lender’s rights. It mitigates risks by ensuring legal enforceability and clarity of terms. Proper documentation is essential for:

  • Protecting the interests of both lenders and borrowers.

  • Ensuring compliance and minimising legal and financial risks.

  • Serving as evidence in courts during recovery.

7.2 Key Documentation Components

Comprehensive loan documentation includes:

  • Loan Agreement: The primary document detailing the loan amount, interest rate, repayment schedule, and other terms.

  • Promissory Note: A legal instrument where the borrower promises to repay the loan.

  • Security Documents: Documents creating a charge on the borrower’s assets (collateral) to secure the loan.

  • Guarantees: Documents where a third party guarantees repayment.

  • Legal Opinions: Opinions from legal counsel confirming validity and enforceability.

  • Corporate Resolutions: Documents showing the borrower’s authority to enter the loan agreement.

7.3 Loan Covenants

Loan covenants are legally binding terms and conditions imposed to mitigate risks, ensure repayment, and protect the lender’s interests. They are a core element of loan documentation in corporate lending.

Types of covenants include:

  • Affirmative (Positive) Covenants: Actions the borrower MUST perform (e.g., submit audited financial statements, maintain insurance, repay on time).

  • Negative Covenants: Restrictions on borrower actions (e.g., no additional borrowing without approval, no asset sales, dividend restrictions).

  • Special Covenants: Tailored clauses for specific risks (e.g., maintain debt-to-equity ratio, achieve performance milestones, meet ESG criteria).

7.4 Documentation Best Practices

Key considerations for effective loan documentation include:

  • Ensuring the borrower has legal capacity to execute documents.

  • Using the prescribed form of the bank.

  • Properly stamping and registering documents.

  • Obtaining proper witnessing where required.

  • Ensuring documents are legally vetted.

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