From Inside the Vault...

Your bank may be asking you to sign a forbearance agreement because of a loan covenant default, a downturn in earnings or other negative financial events.  Most often, your line of credit has a 30 day annual payout which you did not meet because of cash flow constraints.  Other common reasons are you had a debt coverage covenant you did not meet or you had a debt to net worth covenant you did not meet because of operating losses.

Covenant defaults that are repeating are likely to trigger stronger action the second or third time around.  If you have a cross defaulted loan, it may bring that loan in to the picture also.  A cross defaulted loan is where a default on Loan A triggers a default on Loan B.  It is possible the your lender is losing confidence in your business and is asking you to seek financing elsewhere.  The forbearance agreement may give instructions to that effect because the lender does not want to have to liquidate your assets to achieve repayment of the loan.  The assets are relatively illiquid and enforcement of the loan through liquidating of the assets would create a loss.

The forbearance agreement is where the borrower will negotiate terms, document the deal and sign the agreement.  If the parties cannot reach an agreement, they may proceed to litigation and liquidation or bankruptcy.  Here are some common items to look for:

-Recitals  this is the summary of the transactions between both parties.  It will describe the borrowers, guarantors, loan amount, terms, collateral and the defaults.

-Termination Date  this is the period of time the lender will forbear the defaults

-Forbearance Fee while this is negotiable, the lender will expect some consideration for the forbearance period.  While it doesn't make sense for the borrower to pay a fee, it is common to pay anywhere from .25-2% of the loan amount for this.

-Scope of Forbearance by Lender this defines what the Lender will and will not do during the forbearance period.  Typically the Lender agrees not to accelerate the debt, discontinue lending, enter a judgment.  This is also where a lender might want to correct loan documentation, protect collateral or defend against actions by third parties (vendors or other creditors)

These are the main items in a forbearance agreement.  There are other items that may be negotiated such as, refinancing the debt or an equity infusion, payment of professional fees or other expenses, hiring a turnaround professional, jury trial waiver, and bankruptcy provisions.

If you find yourself entering a forbearance agreement, it is a tool the lender uses in getting a borrower to cure defaults and return to a normal lending relationship or situations where the lender desires to exit the relationship.  It is a good idea to engage the services of an attorney to review the forbearance agreement to assist you in identifying issues prior to its execution.