Don't Read a Loan Agreement Like a Book

A 268-page facility agreement isn't 268 pages of easy reading. Faced with that much dense text, most people do t he natural thing: start at page one and push through. That's the single worst way to read a loan agreement - and it's how the most expensive mistakes get made.

At a recent training session for a lender audience, the core message from veteran lawyer and legal trainer Sue Wright was simple: read strategically. Before you open the document, make a list of what you're looking for. Sanctions, cash leakage, guarantor coverage, ranking - whatever matters to this credit. Then go straight to the clauses that deal with each item and tick them off one at a time. Read the whole document afterward if you want, but answer the important questions first. If you read it like a book, you'll respond to what's there and miss what isn't.

The structure of a loan agreement rewards this approach because it's simpler than the page count suggests. Every loan agreement does three jobs:

• The mechanical part advances the money and reflects the term sheet.
• The boilerplate regulates the relationship between the lenders - transfers, voting, the sacred rights clause, pro rata sharing.
• The control part protects the credit. In a recent 268-page document, the control part ran to five clauses. That's the heart of the agreement, and it's tailored to the deal in a way the mechanics never are.

Strategic reading also means reading every provision that is relevant to an issue in the same turn. Anything the lender cares about appears before, during, and after the loan: the borrower states it in a representation, proves it in the conditions precedent, promises it in an undertaking, and faces an event of default if it fails. Those provisions can be 25 pages apart, and they don't always match. The example shared by Sue with the students in the room: a sanctions representation covering every member of the group, paired with an undertaking covering only the obligors' directors, officers, and agents. Read sequentially, that gap isn't apparent. Read side by side, it jumps off the page - and the lender should be asking whether it agreed to that difference on purpose.

Then there are the words that don't announce themselves. Everyone scans for capitalized defined terms. Fewer people check clause 1.2, where words like "continuing" are defined without capitals. If "continuing" means not remedied or waived, a borrower can cure an event of default long after the grace period expired - and the right to accelerate disappears. The grace period was the remedy period; once the event of default has occurred, the borrower had its chance. A definition of "continuing" that includes remedy hands back an unlimited second one. The entire balance of power in the document turns on a word without a capital letter.

The same discipline applies to "Default" versus "Event of Default" - orange light versus red light. Drawstops and security blockers on a Default make sense. Margin ratchets snapping back on a Default, before the red light, deserve a challenge.

None of this requires reading faster or remembering more. It requires knowing what each part of the document is for, knowing where risk actually is - in definitions, in mismatches, in lowercase words - and refusing to let 268 pages set the agenda. The document answers the questions you bring to it. Bring the right ones.

If you'd like to learn how to read loan agreements this way, our new course on exactly this topic will be available soon - watch this space.

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