1 1 1 1 1 1 1 1 1 1 Rating 0.00 (0 Votes)

Term loans represent medium term debt which is obtained from the banks and financial institutions.  They are generally obtained from financial institutions for financing major expansions, modernization or diversification projects.  This method is also called project financing.

Features of Terms Loans

(a)    Direct Negotiation
 A firm negotiates term loans for project financing directly with a bank or financial institution through private          placement.  The firm therefore avoids underwriting commission and other floatation costs.

(b)    Security
Term loans are usually secured specifically by the asset required using term loan funds.  (This is called primarily security).  They are also generally secured by the company's current and future assets (Secondary Security).  The lender may create either a fixed or floating charge against the firm's assets.  Fixed security means legal mortgage of specific assets, while floating charge is a general mortgage covering all assets.

(c)    Restrictive Covenants
Financial institutions normally add a number of restrictive covenants to protect the loan.  Such covenants include:

i.    Asset related covenants which restricts the minimum asset base to be held.
ii.    Liability related covenants which restricts incurrence of additional debt.
iii.    Cashflow related which restricts the firm's cash outflow (e.g. payment of future dividends).
iv.    Control related which restricts the management operating flexibility.

(d)    Convertibility
    Term loans are usually not convertible to ordinary shares unless under special cases where the lender agrees to restructure the capital structure of the firm.