Page 11 - FINAL CFA I SLIDES JUNE 2019 DAY 9

Session Unit 8:
31. Non-Current (Long-Term) Liabilities

LOS 31.d: Describe the role of debt covenants in protecting creditors., p. 280

Debt covenants (affirmative or negative) are restrictions imposed by the lender on the borrower to
protect the lender’s position: reduces default risk and thus reduce borrowing costs.

Affirmative covenants, the borrower makes positive commitments/promises:
• Make timely payments of principal and interest.
tanties
• Maintain certain ratios (such as the CA/CL, D/E, Coverage) in accordance with specified levels.
• Maintain collateral, if any, in working order.

Negative covenants, the borrower promises to refrain from certain activities that might
adversely affect its ability to repay the outstanding debt, such as:
• Increasing dividends or repurchasing shares.

• Issuing more debt.
• Engaging in mergers and acquisitions.

Violation triggers immediate demand for

payment -and hence, can force technical default!