Glossary
A promise in a loan agreement, such as keeping a minimum ratio or not taking other debt.
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A promise in a loan agreement, such as keeping a minimum ratio or not taking other debt.
Covenants can be financial, like maintaining a coverage ratio, or behavioural, like restricting additional financing. Breaking one can trigger default.
Breaking a covenant can let the lender demand repayment.
A bank loan might require the business to keep a debt service coverage ratio above 1.25.
Common in Canadian bank lending.
Before adding any funding, check existing agreements for restrictions. A reviewer may ask about existing lenders and consent.
Covenants are often forgotten after signing. Review them yearly and before any new funding.
Put each covenant and its reporting date in a calendar. Many breaches are simply missed reports, which are easy to avoid. If a financial ratio is trending toward the limit, talk to the lender before the breach, not after.
Lenders often grant waivers or amendments when the business explains a temporary issue in advance. A surprise breach discovered in an annual review is harder to resolve.
Before signing any new funding, read existing loan agreements for negative covenants such as limits on additional debt or changes in ownership. If consent is required, ask for it in writing first. A reviewer may ask whether existing lenders restrict new financing.
A Halifax manufacturer's bank loan requires a debt service coverage ratio of at least 1.25, tested on annual statements. A slow year drops it to 1.1. Because the owner tracked the ratio quarterly and spoke to the bank in October, the bank agreed a temporary waiver. A competitor that discovered the breach only when the annual review arrived faced tighter terms. Covenants are manageable when monitored. They become problems when they are forgotten.
Key takeaway: Track covenants on a calendar, test ratios quarterly and speak to the lender before a breach, not after it.
If you are unsure what your agreements say, ask your lender for a summary of covenants and reporting dates. Most will provide one, and keeping it with your monthly bookkeeping takes a minute.
It can if the agreement restricts additional financing. Check first.
See the related guides and the comparison pages, or apply and ask.
No. It is educational information, and agreements vary.
Educational information only. It is not legal, tax or accounting advice.
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