Uncommitted and On-demand Facilities cause borrowers difficulties

The global pandemic has presented unprecedent challenges to businesses of all sectors, making it paramount for corporate treasurers to reassess their companies’ loan portfolios to ensure the adequacy of cash flow. Companies often sign up to a variety of financings with various lenders – one key feature that corporate treasurers should take stock during these difficult times is whether the financing were committed or uncommitted facilities. It is of utmost importance to understand the characteristics of, in particular, uncommitted facilities and beware of the underlying uncertainties and potential unintended consequences.

As a short summary, a committed facility is a loan facility that, once signed, obliges the lender to provide funds at the borrower’s request on the basis that the borrower complies with certain pre-conditions. A committed loan will not be withdrawn by the lender unless certain events of default (for example, non-payment by the borrower, non-compliance with financial ratios, cross default with other indebtedness of the borrower and/or its other group members) occurs. In contrast under an uncommitted facility, the lender can, in the first place, decide whether to lend even after the credit line has been granted and can, at its absolute discretion, cancel any borrowed money and demand immediate repayment at any time.

Borrowers often sign up to a number of uncommitted facilities to serve as standby credit because uncommitted facilities, in contrast to a committed facility, do not require regular payment of commitment fee computed at a percentage of the undrawn and uncancelled portion of the credit line under the facility. These uncommitted facilities would come in handy when the company has liquidity issues and is in need of some quick cash – which is an issue faced by most, if not all, corporates during the pandemic. However, it is important for borrowers to appreciate the perils of utilising these credit lines:

1. Uncertainties of utilisation and demand

   Given the fluid situation, many lenders are taking a more reserved approach in lending. Lenders are seen to be increasingly reluctant to advance an uncommitted loan given the prominence of bad debts in the market and their likely tightened internal protocol in lending.

   The absolute discretion vested in a lender to determine when the utilised facility becomes immediately repayable is also a concern as the lender is entitled to ‘pull the plug’ even if the borrower has not defaulted or not failed to comply with any of the provisions under the facility documents, so long as any circumstances arise which gives the lender cause for concern in respect of the borrower’s financial position. These circumstances can be as typical as relating to the figures shown in the latest financial statements of the borrower, a deterioration in the industry in which the borrower is operating or even due to a change in the lender’s general lending strategy.

2. Disruption to operation

   The uncertainty as to when a lender will lend and when it will demand repayment makes financial planning difficult. Funds utilised and applied for certain projects may be demanded repayment unexpectedly which will cause disruption to the operation of the company.

3. Cross default

   Majority of facilities in the market, whether committed or uncommitted, incorporate a cross default provision which states that the lender will be entitled to accelerate the loan if any other financial indebtedness of the borrower and/or its group company is not paid when due, declared to be due and payable or its commitment is cancelled or suspended. One uncommitted lender pulling its plug would have a domino effect across majority of the borrower’s loan facilities. The fact that a chain of lenders all demand for immediate repayment is akin to a ‘heart attack’ on the cashflow of the company, which would often bring drastic consequence to the survival of the company.

With rising internal cost of capital and more stringent internal lending protocol, lenders are likely to have less lending appetite and will exercise more caution in granting loan facilities during turbulent times. While uncommitted facilities used to come in handy, corporate treasurers are advised to be careful when utilising these facilities and bear in mind the uncertainties and potential unintended consequences that they may bring.