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Business Loans Flashcards

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1
Q

How can companies raise funds?

A

o Owner investment (i.e. allotment of shares)
o Debt security (i.e. IOUs to an investor)
o Secures and unsecured loans (i.e. bank overdraft, term loans & revolving credit facility)

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2
Q

What is the position under the model articles in relation to borrowing?

A

The MAs do not place any restrictions on borrowing.

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3
Q

If the articles have been amended to contain restrictions on borrowing / granting security, what will the company need to be if it wants to exceed the given power?

A

The company will need to pass an SR to amend the articles to remove these

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4
Q

What is an overdraft?

A

Temporary loan to cover everyday expenses. It allows the business to go overdrawn into its current account.

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5
Q

What are the advantages of an overdraft?

A

Flexible and quick source of income

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6
Q

What are the disadvantages of an overdraft?

A

o They are an uncommitted facility (i.e. the bank can demand repayment at any time)
o High interest rates as they are unsecured

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7
Q

What is a term loan?

A

When the business borrows a fixed amount from a bank for a specified period

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8
Q

What are the different lengths of time for a term loan?

A

o Short term loan - up to one year
o Medium term loan - up to five years
o Long term loan - over five years

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9
Q

When are term loans commonly used?

A

To purchase an asset

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10
Q

What are the key features of a term loan?

A
  • They can be secured or unsecured
  • They can be bilateral (between business and one bank) or syndicated (between business and a number of lenders)
  • These are a committed facility
  • Interest is payable
  • They can be drawn down at once or instalments by agreed dates
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11
Q

What is a committed facility?

A

an agreement with a bank which involves clearly defined terms and conditions set forth by the lending institution and imposed on the borrower

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12
Q

What is the name for the contract for a term loan?

A

credit, loan or facility agreement

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13
Q

What are the advantages of a term loan?

A

o If taken out in instalments, payable interest is reduced
o Borrower has greater control as the lender can only request repayment under the terms of the contract

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14
Q

What are the disadvantages of a term loan?

A

o Time and expense negotiating the loan
o Once the money is repaid, it can’t be borrowed again. A new loan would be needed.

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15
Q

What is a revolving credit facility?

A

When the bank agrees to make a maximum amount of money available to a business throughout an agreed period. During this period, the bank can borrow and repay money again.

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16
Q

What are the key features of a revolving credit facility?

A

o Interest is payable at regular intervals.
o It is a committed facility
o Can be secured or unsecured

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17
Q

What are the advantages of a revolving credit facility?

A

o Good for a business whose income is in received unevenly throughout the year
o Flexible
o Can reduce payable interest by reducing borrowings

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18
Q

What are the disadvantages of a revolving credit facility?

A

o Time and expense negotiating terms
o High fees are often charges

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19
Q

What are the key contractual terms of a committed facility?

A
  • Details of loan (i.e. amount, currency, type, availability periods)
  • Repayment and pre-payment
  • Interest rates
  • Express covenants
  • Events of default
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20
Q

Explain the repayment / pre-payment clause in a committed facility agreement. Give examples

A

The bank can only obtain repayment in accordance with the agreement

Example of repayment schedules:
* Bullet payment - loan is paid in full at end of term
* Amortisation - loan is paid in equal instalments throughout the term
* Balloon payment - loan is paid in unequal payments with one final large payment

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21
Q

Explain the interest clause in a committed facility agreement.

A

o To be agreed between parties
o The rate can be variable or fixed
o Likely there will be default interest if payments are missed

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22
Q

Explain the express covenants in a committed facility agreement. Give examples.

A

The purpose is to ensure the business acts within agreed limits to maximise the chances of the loan being repaid

Examples include:
 The borrower is required to pay all debts as they fall due
 The borrower is obliged to seek equity finance for new ventures and not debt finance
 The borrower must ensure current assets exceed current liabilities

The lender must be careful not to exert too much influence as this risks them being found liable as a shadow director

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23
Q

Explain implied covenants to a committed facility agreement. Give examples.

A

A court would only imply a term into the contract if it were necessary to give business efficacy to the contract or if the term was so obvious it ‘goes without saying’

A term would not be implied if it was inconsistent with an express term

Example - the bank’s right to charge compound interest

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24
Q

Explain the events of default clause in a committed facility agreement

A

If the borrower fails to pay, commence insolvency procedures or breach other obligations under the agreement, then the lender can terminate the agreement if they wish

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25
Q

What is the effect on the loan if it is unsecured and the borrower cannot pay?

A

the pari passu principle applies

this means that all unsecured creditors to an insolvency process must share any available profits equally

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26
Q

What is a directors’ guarantee?

A

A personal guarantee by a director is a legally binding agreement where a director promises to repay a business loan or other liability if the company is unable to.

This gives the lender extra security

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27
Q

If a directors’ guarantee has been given, what effect might this have?

A

If the company has the MAs, the director would not be able to vote in quorum on the loan because they would have a person interest.

The SHs would need to pass an SR to suspend MA14 or to allow them to count in the vote/quorum

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28
Q

What is the position under the model articles in relation to granting security?

A

The MAs do not place any restrictions on borrowing.

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29
Q

Wha should lenders do before agreeing to accept the property offered as security?

A

Lenders should check Ds have the authority to offer the security and Companies House for any earlier charges over the property offered as security

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30
Q

What are the main types of security? How are they similar?

A

o Mortgages
o Fixed charges
o Floating charges

They are all types of charge, so the rules regarding registration, priority etc apply to all of them. However, their operation is slightly different?

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30
Q

What can be offered as security?

A

Virtually all land, tangible (i.e. machinery, computers) and intangible (i.e. money in bank account, debts owed, shares) property can be offered as security

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31
Q

What effect do charges have?

A

Fixed and floating charges confer an equitable proprietary interest (not legal ownership). This means the lender has the right to the property on default, even though they do not have legal ownership.

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32
Q

What are the two classes of mortgage?

A

Residential mortgages and business / commercial mortgages.

We are looking at the latter.

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33
Q

Which type of business can engage in a commercial mortgage?

A

LLPs and companies

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34
Q

What is a legal mortgage? What does it involve?

A

Legal mortgages (not inc. over land) involve the transfer of ownership to the lender on the basis it will be re-transferred once the borrower has satisfied the obligations. As the lender has legal ownership, they have an immediate right to possession on default. Therefore, if the borrower defaults, the lender can immediately possess and sell the property.

A legal mortgage over land is achieved by taking a statutory charge (i.e. charge by deed expressed to be by way of legal mortgage). This confers a legal interest in the land but does not confer legal title.

Therefore, there could be more than one legal title over land but not other assets.

35
Q

Who is the mortgagee and mortgagor?

A
  • The person giving the security (i.e. the borrower) is called the mortgagor
  • The person taking the security (i.e. the lender) is called the mortgagee
36
Q

Who can grant a fixed charge over assets?

A

Companies, LLPs and sole traders and general partnerships

37
Q

What is a fixed charge?

A

A fixed charge is a type of security that a creditor takes over a specific an asset to secure a debt. The creditor, or chargeholder, has the right to control the asset, and can seize it if the debtor defaults on the loan

38
Q

What assets can be subject to a fixed charge?

A

Tangible and intangible assets. These can be existing or future assets but it must be a specific asset capable of being defined.

39
Q

Can an asset be subject to more than one fixed charge?

A

A separate charge is needed for each asset, but more than one charge can be granted over an asset

40
Q

What are the borrower’s obligations once a fixed charge is granted?

A

The borrower cannot sell it without the lender’s permission and they must keep it in good condition

41
Q

If the borrower goes into liquidation, what happens in relation to the fixed charge?

A

If the borrower goes into liquidation, the lender can sell the asset and be paid from the proceeds of sale.

Fixed charges have a first right of claim over other creditors

42
Q

Who can grant a floating charge?

A

LLPs and companies

43
Q

What are floating charges?

A

A floating charge is a security interest that a lender holds over a company’s assets that can change in value or quantity over time (i.e. stock or all of the company’s assets).

Floating charges are also known as floating liens.

43
Q

How are the borrower’s obligations different in relation to fixed and floating charges?

A

With fixed charges, the borrower cannot sell the asset without the lender’s permission.

With floating charges, the borrower does not need to get the lender’s permission to sell an asset. The borrower has freedom to deal with the assets until the charge crystallises.

44
Q

Can assets be subject to more than one floating charge?

A

It is possible to have more than one floating charge over the same group of assets

45
Q

What are the assets subject to a floating charge called?

A

‘Stock’ or ‘the undertaking’

46
Q

When will a floating charge crystallise? What effect does this have?

A

The charge will crystalise if the charger:
o Goes into receivership
o Goes into liquidation
o Ceases trade
o Any other event specified in the charge document

When the floating charge crystallises, it effectively becomes a fixed charge.

47
Q

What are the advantages of a floating charge?

A

o More flexibility to deal with assets
o Can be used on assets unsuitable for a fixed charge so more money can be borrowed
o Can be taken over the whole company

48
Q

What are the disadvantages of a floating charge?

A

o Fixed charges take priority over floating charges
o If the assets are sold to repay the chargor and there is left over monies, preferential creditors would have a right to this money before the chargor
o In some circumstances a liquidator can apply to have a floating charge set aside

49
Q

What is a book debt?

A

debts owed to the LLP/company

50
Q

What type of charge is best suited to book debts and why? What is the problem with this?

A

Floating charges because they fluctuate. However, a fixed charge is desirable as it gives the chargor priority on liquidation.

51
Q

When will a charge over book debts be a fixed charge?

A

Case law has established that if the chargor had control over the debts and the proceeds once paid, the charge is a fixed charge. For example, the company/LLP collected the book debts and once paid, gave the money to the chargor toward settling the debt.

However, if the company/LLP was able to use the book debt proceeds for business purposes, it would indicate a floating charge.

Express provision in the charging document may determine whether it is a floating or fixed charge.

52
Q

What are the key contractual terms of a charging document?

A

o Type of security (i.e. floating or fixed. If fixed, the specific assets will be listed)
o Representations and warranties
o Covenants
o Negative pledges
o Enforcement powers (i.e. when the security becomes enforceable and the lender’s power to sell)

53
Q

In a charging document, what is meant by the representations and warranties clause?

A

The borrower will need to make contractual statements about the assets and declare all relevant information (i.e. it is free from other charges. Failure to disclose amounts to a breach of contract.

54
Q

What type of covenant would you expect to see in a charging document?

A

a covenant to ensure that the value of the asset is maintained or that there is insurance in place

55
Q

What are the advantages of debt finance?

A
  • The lender will not have ownership/influence over the company (unlike SHs and equity finance)
  • Loans are a normal trading expense so can be deducted before corporation tax is assessed
  • No risk of company politics (unlike equity finance)
55
Q

In a charging document, what is meant by the negative pledges clause?

A

This is a covenant that the business will not create any other security without the lender’s permission. Floating charge holders try to add this clause in to protect their position as they rank after fixed charge holders.

Any negative pledges are disclosed on Form MR01 and will be in the charging document filed with companies house

56
Q

What are the disadvantages of debt finance?

A
  • There will be interest on the loan
  • The financial agreement may restrict the company taking out further debt finance
  • Interest payments are a contractual liability so must be paid before any dividends, and capital must be used to pay them if there are no profits
  • Loan capital must be repaid
  • A lender could sell the debenture to a third party
57
Q

What is the procedure to register a charge?

A
  1. Within 21 days of creation of charge, the company or any person interest in the charge (i.e. the chargee) must file certain documents with CH.
  2. If the charge is over land this must also be registered with HMLR
  3. The ROC will then register the charge and include a certified copy of the charge on the register and give the person who filed the charge a certificate of registration.
  4. The company must keep Form MR01 and a certified copy of the charging document at the RO / SAIL for inspection.
58
Q

What documents must be filed at companies house to register a charge? Within what time frame and by who?

A
  1. Within 21 days of creation of charge, the company or any person interest in the charge (i.e. the chargee) must file with CH:
    a. Form MR01 (i.e. statement of particulars)
    b. A certified copy of the charge instrument
    c. The fee
59
Q

If the charge is over land, and this is not also registered with HMLR, what is the effect of this?

A

a buyer of the land could acquire the land free of the fixed charge, even if they knew of its existence

60
Q

If a company fails to keep a copy of the charging paperwork at its RO / SAIL for inspection, what is the effect of this?

A

This is a criminal offence but this does not affect the validity of the charge

61
Q

Is there a legal requirement to register a charge?

A

No, but failure to register means the charge is invalid

62
Q

When will a charge be void?

A

The charge will be void if:
o It is delivered after 21 days (inc. weekends & bank holidays)
o The details are inaccurate

63
Q

What is the effect of a void/invalid charge?

A

The effect of a void/invalid charge is:
o The lender cannot enforce the security, but the company will be required to pay the debt immediately
o On liquidation, the charge is ignored (they become an unsecured creditor)

64
Q

If a charge is void/invalid due to the solicitor, what is the consequence of this?

A

If the failure to register is due to a solicitor’s mistake this could amount to a negligence claim

65
Q

What powers do the court have in relation to charges?

A

The court has the power to allow a document on the register be replaced

The court has power to extend the 21 day deadline and allow amendments to the register if the failure was:
o Accidental, due to an inadvertence or to some other sufficient cause; or
o It will not prejudice other creditors or SHs of the company; or
o On other grounds meaning it is just and equitable to grant relief

66
Q

On what date does a charge take effect from? Why is this significant?

A

The charge only takes effect from the actual date of registration.

This is significant because if other charges are registered before the extension is granted and the charge is registered, the other charges will take priority

67
Q

Is there a legal obligation to inform companies house of updates to charges (inc when it ends)?

A

No

68
Q

If a party does wish to inform companies house that the charge has come to an end, what must it do?

A

They must file a statement of satisfaction on the relevant form:
o The debt has been paid in full or part (Form MR04)
o The registered charge has been released in full or part (Form MR05)
o The property no longer belongs to the borrower in full or part (Form MR05)

Entries on HMLR or UK IP Office must also be removed

69
Q

Why is it in a borrower’s interest to inform companies house a charge has come to an end?

A

to keep the accounts up to date for the purposes of potential investors and creditors

70
Q

What is the order for priority of charges?

A
  1. A fixed charge or mortgage will always take priority over a floating charge (even if the floating charge was created before)
  2. If there is more than one fixed charge or mortgage over the same asset, they take priority based on the date of creation (not registration)
  3. If there is more than one floating charge over the same asset, they take priority based on the date of creation (not registration)

Creditors may agree to alter the priority of charges in a ‘deed of priority’

71
Q

What is a deed of priority and why might one be used?

A

A deed of priority is a legal agreement that establishes the order of priority for creditors who have security from the same debtor.

This might be attractive to creditors where e several lenders with security over the same asset(s). This can make the liquidation process easier and provide some surety as to the order in which the creditors will be paid.

72
Q

What happens if a subsequent lender takes a charge over an asset subject to a negative pledge? Give an example.

A

If a subsequent lender with actual knowledge of the original charge proceeds to take a charge over the same asset, their charge will be subordinate to the first charge and they may be liable for the tort of inducing breach of contract

The subsequent lender must have actual knowledge, constructive knowledge is not sufficient.

The existence of a negative pledge clause revealed on form MR01 is not sufficient. However, if the lender conducted a search on Companies House (as is standard practice before giving a loan) and saw a certified copy of the charging document containing the clause, this would be actual knowledge.

73
Q

What is the best way to approach an SBAQ regarding a question about charges?

A
  1. Identify all of the fixed charges and mortgages
  2. Make sure these charges are valid
  3. List the valid fixed charges / mortgages chronologically, based on the date of creation
  4. Make sure the floating charges are valid
  5. List the valid floating charges chronologically, based on the date of creation
  6. List invalid charges

Remember any void charges where an EOT has been granted take effect from the date of registration

74
Q

What are other types of security?

A
  1. personal guarantee
  2. pledges
  3. liens
  4. retention of title
75
Q

How do personal guarantees work?

A

if the business cannot pay the debt, the guarantor’s personal assets are at risk

76
Q

How pledges work?

A

This is where the asset is physically given to the creditor as security until the debt is paid. The creditor has the right to sell the asset if sufficient notice is given.

77
Q

How do liens work? Give an example.

A

This gives the creditor right to physical possession of the goods until the debt is paid. There is no right to sell the assets.

Example - a mechanic has the right to retain a van until the repairs have been paid for

78
Q

How does retention of title work?

A

the buyer does not get full title to the goods upon sale until they have been fully paid. If the buyer defaults then the goods are repossessed.

79
Q

What format can security agreements take?

A

Contract or by deed

80
Q

How is a contract executed?

A

By company seal used by person with authority

81
Q

What are the requirements where the agreement is executed by deed and how is it executed?

A

The document must be delivered as a deed (i.e. it is clear it is intended to be a deed)

S44 CA 2006 - a company can execute a deed by either:
o Affixing its seal; or
o By signatures of:
 Two authorised signatories (Ds & CSs); or
 A D in the presence of a witness who attests the signature

If the company has unamended MAs, the document must also be signed by at least one other authorised person (i.e. Ds, CSs and anyone else authorised by Ds) in the presence of a witness who attests the signature

82
Q

What is a debenture? What can / does it include?

A

A debenture the name for a loan agreement in writing between a borrower and a lender that is registered at Companies House

The debenture will set out the security (i.e. a charge or mortgage)

The debenture can set out more than one type of security interest (i.e. if there will be fixed and floating charges)

83
Q

What formalities must the debenture comply with?

A

The debenture must comply with the formalities applicable to the type of security, i.e.:
o If the debenture is to create a legal mortgage over property, it must be executed as a deed by the borrower
o The debenture must be filed at CH within 21 days of the security interest being created in order to be valid

84
Q

Who can enter into a debenture?

A

LLPs and companies only

Business Law & Practice (17 decks)

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