Announcing the Emerging Business Credit Agreement

We are pleased to share the new form of the Emerging Business Credit Agreement (EBCA), which is the product of a collaborative project of the Commercial Finance Committee of the American Bar Association (ABA) Business Law Section and the Primary Market Committee of the Loan Syndications and Trading Association (LSTA).

The new EBCA includes three supplements that have been prepared with the agreement: the Security Supplement, the Financial Covenants Supplement, and the Agency Supplement. We worked under the expert guidance of our external counsel, Thomas Mellor and Sean Zoltek of Morgan, Lewis & Bockius LLP, who drafted the EBCA form. They have led us in the production of an excellent form with numerous guideposts and in-depth drafting notes, some of which are highlighted below.

The EBCA is intended to be used for a borrower that is an “emerging business.” For the purposes of this form, the term “emerging business” refers to a borrower that is no longer a new venture but is not yet an established middle market company. The current form is designed to bridge the gap between the “off the shelf” form for new venture companies and the more highly negotiated and tailored agreements of the larger, more established middle market companies. Borrowers using these forms will likely be generating regular and consistent revenue but will often not have consistently positive EBITDA. They will likely desire more flexibility when it comes to running their businesses and making decisions about, for example, investments and distributions. Our goal with this form is to take into account, on the one hand, the interests of the borrowers and their growing businesses, and on the other hand, those of the lenders who are willing to put their money at risk, to create a more balanced form that the parties can use as they start their negotiations.

We anticipate that our form could be useful for loans between $25 million to $100 million; however, parties should note that the size of the loan should not be the sole factor when deciding the form with which to start. When determining where to begin, parties will always need to assess the borrower, the stage of its life cycle, and the parties’ willingness to spend time and money negotiating a credit agreement.

Our form also assumes the borrower is formed in the US with US-based operations and limited, if any, foreign operations or assets located outside the US. If significant activity takes place or material assets are located outside the US, then parties will need to adapt the form and include foreign borrower and/or foreign assets language, as well as considering, among other issues, the local law requirements (especially if there are foreign guarantors) and the taxes clause.

The form of the agreement is governed by New York law. However, because of comments submitted by the ABA’s Commercial Finance Committee shortly before the penultimate turn of the document, we have included provisions specific to credit agreements that are governed by the laws of California, Illinois. or Texas. For example, drafting notes in Annex I highlight language that should be included if the agreement is governed by the laws of California or if the entity has assets (in particular real estate assets) located there. For that state, language has been provided whereby each loan party waives all rights and defenses that they may have if their obligations are secured by real property there.

We have also drafted a security supplement, a financial covenants supplement, and an agency supplement for the EBCA. The terms of a security agreement have been incorporated into the credit agreement itself; this reflects common practice in the venture debt space where the loan is to be secured. This form assumes that subsidiaries of the borrower will become guarantors of the facility irrespective of whether or not the facility is secured. This approach should streamline the process and save the parties both time and expense of negotiating another document. Additionally, because the borrower’s own collateral and structure is typically more straightforward than companies further along in their life cycle, the incorporation of security terms in the credit agreement itself can more easily be achieved. The separate Security Supplement serves this purpose, but, of course, if the parties prefer to use a separate security agreement, the form can easily be adapted for that as well. Parties should note that the security supplement is not exhaustive of all applicable security interest provisions that parties may need for their deal; only the typical ones have been flagged for the draftsperson’s consideration.

Loans extended to emerging businesses often will not include financial or performance covenants. As noted in the covering memo of the Financial Covenants Supplement, because the borrower’s future growth trajectory is uncertain, it may be practically difficult to come up with meaningful metrics at closing that can accurately predict the company’s growth prospects and its ability to comply with financial or maintenance covenants while the loan is outstanding. As such, the parties may agree to include more deal-specific reporting mechanisms for such performance metrics rather than more traditional leverage and fixed charge maintenance covenants. If financial and performance covenants are included, they are expected to be heavily negotiated and well-tailored to the borrower, its business, and the relevant industry.

Because EBCA loans typically have only one lender, we drafted this form as a bilateral credit agreement, thus enabling us to streamline the form further by not including the typical LSTA agency provisions. However, if the deal is being made on a club basis, agency provisions can be included, particularly if the deal is secured or includes more than a small number of non-affiliated lenders. A sample Agency Supplement has been included for cases where the deal requires an agent.

In this market, lenders will often want the borrower to use its or an affiliates’ banking services. This form requires as a closing condition that the borrower shall have arranged for its bank services to be with the lender. Lenders should consider tailoring these services, but they must also bear in mind any applicable anti-tying regulations.

As with all forms of agreements, we have attempted to flag issues and provide a starting point for parties to consider and adapt to the borrower’s business. This is particularly true for the representations and covenants. The parties must of course consider the nature of the representations and covenants that are suitable for the borrower and its business as they determine which ones to include.

Finally, before we were due to publish the EBCA, the Office of the Comptroller of the Currency (OCC) issued detailed guidance on November 1, 2023 (the “Guidance”), to address risk management standards and safe and sound lending practices for venture lending. We reviewed that guidance and added a new note 12 to the cover memo of the form to highlight it to members. Venture lending is defined by the Guidance to include certain characteristics and provides exclusions for certain types of loan products (for example, asset-based lending that meets certain criteria is excluded from the definition of “venture lending”). The OCC seems to be responding to concerns following the recent failures of certain banks active in venture lending, and the Guidance signals that the OCC is more closely considering banks’ standards for evaluating venture lending. The impact of the Guidance on current venture lending structuring and documentation practices remains to be seen. For transactions that fall within the definition of venture lending (as defined by the Guidance), a careful review of the Guidance is advisable.