Loans

Question 1

Overdraft (2)

Answer 1

• An on-demand facility: the bank can call for all of the money owed to it at any point and demand it be repaid immediately  Unsuitable for long-term borrowing
• Interest is paid to the bank on the amount that the customer is ‘overdrawn’

Question 2

Term loan

Answer 2

• Loan for a fixed period of time repayable on a certain date
• The lender cannot demand early repayment unless the borrower is in breach of the agreement
• Lender receives interest on the loan throughout the period
• Either repayable as bullet repayments (lump sum) or repayable in instalments (amortising)

Question 3

Term loan

Answer 3

• Loan for a fixed period of time repayable on a certain date
• The lender cannot demand early repayment unless the borrower is in breach of the agreement
• Lender receives interest on the loan throughout the period
• Either repayable as bullet repayments (lump sum) or repayable in instalments (amortising)

Question 4

Bond

Answer 4

• The issuer (the company) promises to pay the value of the bond to the holder of that bond at maturity. The company also pays interest at particular periods, usually biannually.

-Bonds are issued with a view to being traded (on the capital market)

• Whoever holds the bond on maturity will receive the value of the bond back from the issuer.
• Private companies can only issue bonds to targeted investors and not to the public indiscriminately

Question 5

Convertible bonds

Answer 5

Convertible bonds are bonds which can be converted into shares in the issuer. On conversion, the issuer issues shares to the bondholder in return for its agreement to give up its right to receive interest and repayment of the principal amount invested. Note that a convertible bond has the characteristics of both debt and equity, but not at the same time. It starts off as a debt security but later on, if the investor so elects the bond is swapped for shares.

Question 5

Convertible bonds

Answer 5

Convertible bonds are bonds which can be converted into shares in the issuer. On conversion, the issuer issues shares to the bondholder in return for its agreement to give up its right to receive interest and repayment of the principal amount invested. Note that a convertible bond has the characteristics of both debt and equity, but not at the same time. It starts off as a debt security but later on, if the investor so elects the bond is swapped for shares.

Question 6

Preference shares

Answer 6

A preference share is wholly equity, but it is often called a hybrid because it has elements that make it look similar to debt. The holder of a preference share commonly has no voting rights and will usually get a definite amount of dividend ahead of other shareholders. If the preference share has a fixed maturity date on which the company must redeem or purchase the share and/or such preference dividend is fixed, then the preference share actually looks more like debt. However, if the preference share does not have such a fixed maturity date and/or the preference dividend will only be paid if the company declares a dividend (unlike interest, which has to be paid), then this share is more akin to traditional equity.

Question 7

Preference shares

Answer 7

A preference share is wholly equity, but it is often called a hybrid because it has elements that make it look similar to debt. The holder of a preference share commonly has no voting rights and will usually get a definite amount of dividend ahead of other shareholders. If the preference share has a fixed maturity date on which the company must redeem or purchase the share and/or such preference dividend is fixed, then the preference share actually looks more like debt. However, if the preference share does not have such a fixed maturity date and/or the preference dividend will only be paid if the company declares a dividend (unlike interest, which has to be paid), then this share is more akin to traditional equity.

Question 8

Term sheet

Answer 8

• A statement of the key terms of the transaction – loan amount, intertest rate, fees, representations, undertakings, and events of default to be included in the loan agreement or bond T&Cs
• Term sheet is similar to heads of terms – not binding but a statement of what parties agree

Question 9

Term sheet

Answer 9

• A statement of the key terms of the transaction – loan amount, intertest rate, fees, representations, undertakings, and events of default to be included in the loan agreement or bond T&Cs
• Term sheet is similar to heads of terms – not binding but a statement of what parties agree

Question 10

Loan agreement

Answer 10

• Sets out the main commercial terms of the loan – interest, dates when interest is payable, date when principal needs to repaid fees.
• Includes most information from the term sheet but in more detail
• This document is heavily negotiated
• Does not need to be registered at companies house

Question 11

Loan agreement

Answer 11

• Sets out the main commercial terms of the loan – interest, dates when interest is payable, date when principal needs to repaid fees.
• Includes most information from the term sheet but in more detail
• This document is heavily negotiated
• Does not need to be registered at companies house

Question 12

Security document – ‘debenture’

Answer 12

If a loan is secured, a separate security document will be negotiated and entered into

Question 13

Pledge

Answer 13

The security provider gives possession of the asset to the creditor until the debt is paid back  example: pawning a watch or item of jewellery

Question 14

Creditor retains possession of the asset until the debt is paid back – this arises by operation of law  example: mechanic’s lien – mechanic can retain possession of a repaired vehicle until the invoice is paid

Question 15

lien

Answer 15

Creditor retains possession of the asset until the debt is paid back – this arises by operation of law  example: mechanic’s lien – mechanic can retain possession of a repaired vehicle until the invoice is paid

Question 16

mortgage

Answer 16

Security provider retains possession of asset but transfers ownership to creditor – subject to the security provider’s right to require the creditor to transfer the asset back to it when the debt is repaid (equity of redemption

Question 17

Charge

Answer 17

• Security provider retains possession of the asset but creates a charge (an equitable proprietary interest) in the asset in favour of the creditor.
• The creditor will have certain rights over the asset  example: right to appoint a receiver or administrator to take possession and sell the asset if the debt is not paid back
• 2 types of charges: fixed charges and floating charges

Question 18

Floating charge disadvantages

Answer 18

• Security provider retains possession of the asset but creates a charge (an equitable proprietary interest) in the asset in favour of the creditor.
• The creditor will have certain rights over the asset example: right to appoint a receiver or administrator to take possession and sell the asset if the debt is not paid back
• 2 types of charges: fixed charges and floating charges

Question 19

What are guarantees?

Answer 19

• Strictly speaking, guarantees are not security, as guarantees do not give rights in assets. However, their commercial effect is similar to security
• A guarantee for a loan means an agreement that the guarantor will pay the borrower’s debt if the borrower fails to do so. Guarantees can come from companies or individuals (such as directors).

Question 20

When must charges be registered?

Answer 20

within 21 days of creating the charge, they must send the statement of particulars on Form MR01 , a certified copy of the charge, and the registration fee.
The lender then issues a certificate of registration which is evidence of proper registration

Question 21

what does the MR01 form contain?

who registers?

Answer 21

• the company creating the charge
• the date of creation of the charge
• the persons entitled to the charge
• a short description of any land, ships, aircraft, or intellectual property registered (or required to be registered) in the UK which is subject to a fixed charge

Usually the lender registers

Question 22

what form must be used to register charge?

Question 23

What is the effect of failure to register?

Answer 23

if the charged is not registered within 21 days then:

• the charge is void against the liquidator, administrator, and any creditor of the company and
• the debt becomes immediately payable

Question 24

order of priority between creditors upon winding up

Answer 24

1. Creditors with fixed charges - entitled to the first call on the proceeds from the sale of those assets charged to them under a fixed charge
2. Preferential creditors - primarily wages (up to £800 per employee), occupational pensions and sums owed to HMRC

Question 25

priority of secured creditors

Answer 25

• If there is more than 1 creditor with a fixed charge over the same assets, the first fixed charged that was properly registered has priority
• If there is more than 1 creditor with a floating charge over the same asset, the first fixed charged that was properly registered has priority

But: this order can be varied by a deed agreement between creditors

Question 26

Priority among unsecured creditors/shareholders

Answer 26

Shareholders and unsecured and preferential creditors rank equally among themselves (subject to any preferential rights attached to certain classes of share