4.2 Management of Risk: General Remarks 89process more efficient and allow negotiations to begin from a more reasonable starting
point as the form of the more basic provisions has been settled.^13
The use of a legal platform or a high degree of standardisation can increase the
tradeability of loans in the secondary market, reduce the lender’s risk exposure,
and reduce the borrower’s funding costs. It would be difficult and expensive to
trade loans in the secondary market without standardisation, because an agreement
may contain several different facilities, options, and complex covenants and
agreements running in different directions - from the borrower to the lender, from
the lender to the borrower, and, in syndicated loans, from the lender in favour of
other lenders and the agent bank.
Review of existing agreements. The review of existing agreements is necessary
in particular to reduce the risk of default or the occurrence of a termination event
under existing and future agreements (for example, pari passu clauses, negative
pledge clauses, other covenants, and material adverse change clauses), and liquid-
ity risks caused by the timing of payments under different agreements.
Lender’s discretion v borrower’s managerial discretion. Generally, loan agree-
ments often give the lender plenty of discretion. For example, the agreement may
give the lender an absolute discretion to assign the loan amount.
The lender will try to ensure that the borrower is not permitted to undertake any
activity that may make it unable to perform its obligations. The lender might also
try to ensure that the borrower is bound by the agreement during the whole term of
the agreement and will not prepay the funds in advance.
While the lender may prefer to mitigate risk by constraints on managerial dis-
cretion, the borrower usually tries to lift those constraints or restrict the exercise of
the lender’s discretion by diluting or qualifying the lender’s rights.
The borrower tries to achieve the greatest possible freedom in how it conducts
its business and uses moneys that it has received from the lender. One of the bor-
rower’s basic objectives when drafting the loan agreement is to maximise its free-
dom of action during the course of the loan transaction by limiting the scope of
each restrictive covenant and representation and warranty as much as possible.^14
Another is the freedom to prepay the funds in advance.
If the covenants, representations and warranties, and clauses on prepayment are
too restrictive and leave the borrower too little managerial discretion, the borrower
will be exposed to a higher commercial risk. Restrictions on prepayment contrib-
ute to interest rate risk. Too restrictive representations and warranties, covenants,
and events of default are likely to increase the risk of default.
Need to raise additional funding. The problem with the lenders having plenty
of discretion and the borrower having too little discretion can materialise, for ex-
ample, when the borrower needs more money and must raise additional funding.
(^13) See, for example, Gayle C, Acquisition Finance – Syndication Best Practice, Int Comp
Comm L R 13(8) (2002) p 305.
(^14) Bradlow DD, Some lessons about the negotiating dynamics in international debt transac-
tions. In: UNITAR, Problems and Perspectives of Debt Negotiations, DFM Document
Series, Document No 9, Geneva (April 2000).