The tide has turned in the eternal struggle for lender protection in leveraged finance deal documents. In deals of all sizes, but particularly in the mid-market, lenders are celebrating some wins in gaining greater protection.
This is all very well and of course it’s better to have covenants as a lender than not. But in most cases, a far better way to protect your interests is to have a good relationship with the sponsor that owns the firm you are lending to in the first place.
Direct lenders have marketed themselves as relationship lenders for a reason. With a focus on the mid-market they will often be able to offer the most leverage and most flexible terms, even the most flexible covenants. But in return they want a relationship.
In good times this relationship has mostly meant repeat business. But in more turbulent periods it will be a test of how different sponsors behave in stressed and distressed situations.
Those that communicate problems early and work with lenders to find solutions will find they have a lot more creditors available to them than those that bury their heads in the sand and manipulate financials to avoid setting off alarm bells, leading to difficult discussions later on.
There is less talk in the market about white-listed lenders and black-listed sponsors now than there was in the decade following the 2008 financial crisis but it only takes one bad experience to generate a lot of bad feeling.
So lenders should take the protection while they can get it, but they would do better to build a deep relationship with those they think they need protecting from.