/>iWhen a business seeks financing, it steps into a world shaped by contracts, collateral, and cautious optimism. Lending isn’t just a numbers game; it’s a relationship built on trust, documentation, and risk allocation. As Michael Weis of Weis Burney LLC emphasizes, “The lender is not just giving you money and walking away. They’re staying involved with the business through the lifecycle of the loan.”
Whether you are a borrower looking to grow or a lender managing risk, understanding the basic concepts of commercial lending is essential. A well-structured loan can unlock growth. A poorly understood loan can cripple a business.
Every Deal Is Unique
No two deals are identical. And in the world of commercial lending, there will often be more than just a ‘borrower’ and a ‘lender.’ According to Phil Buffington of Balch & Bingham, LLP some deals will include additional parties like guarantors, pledgors, and affiliates.
Personal or corporate guarantees are often required, especially in closely held businesses or startups. These guarantees extend liability beyond the borrower itself. They may take several forms including:
- Unlimited Guarantees: full liability for the debt.
- Limited Guarantees: liability capped by amount or time.
- ‘Springing’ Guarantees: liability that only applies if certain conditions are met such as in cases of fraud or bankruptcy.
Borrowers must understand these distinctions because guarantees affect personal risk exposure. Lenders, on the other hand, use guarantees as a backstop when the borrower’s creditworthiness is uncertain.
Every borrower will also bring a unique risk profile, which the lender will then address and account for in its term sheet. The term sheet is a business document that outlines the deal’s structure, including the loan amount, interest rate, fees, collateral, and covenants.
“If you’re a borrower, negotiate those business terms early,” Weis advises, “because once lawyers get involved, it gets more expensive to change anything.”
The term sheet may feel like a formality, but it’s often the best opportunity to shape the deal before it hardens into binding legal documents.
Collateral and the Power of the UCC
One of the key components in any secured lending deal is collateral, which are the borrower’s assets pledged to protect the lender against default.
The Uniform Commercial Code (UCC) governs how these security interests are created and perfected. Priority is everything. If multiple lenders file claims on the same asset, the first to file usually wins. That’s why proper lien searches and documentation are critical before any funds change hands.
“To protect their interest, lenders file a UCC-1 financing statement,” notes Caitlin McAtee of Duane Morris LLP. “This puts the world on notice that they have a lien on the collateral.”
For borrowers, collateral means that critical assets like receivables, inventory, or equipment, may be at risk if repayment falters. For lenders, it is the key safeguard that makes financing possible in the first place.
Loan Covenants
Loan agreements almost always include covenants, which are commitments made by the borrower to do (or not do) certain things. These covenants generally fall into three main categories:
- Affirmative Covenants: promises to take certain actions (e.g., provide financial statements, maintain insurance).
- Negative Covenants: restrictions against certain actions (e.g., don’t incur additional debt, don’t sell significant assets).
- Financial Covenants: requirements to meet specific performance ratios (e.g., maintain EBITDA above a threshold, keep leverage below a certain level).
Andrew Hutchinson of Much Shelist, P.C. notes that “Covenants are how lenders monitor borrower performance. It’s not about micromanaging; it’s about protecting the capital.”
From a borrower’s perspective, covenants can feel restrictive, but they are often negotiable. From the lender’s side, covenants are crucial early warning systems. A borrower in covenant breach may still be making payments, but their financial health may be deteriorating in ways that matter for long-term repayment.
Default and Lender Remedies
Defaults are not limited to missed payments. ‘Events of default’ can be broadly drafted and may include technical breaches that have nothing to do with failing to send a check.
Borrowers may default by:
- Failing to provide the required financial statements
- Breaching a covenant
- Triggering a material adverse change (MAC) clause
- Becoming insolvent or filing bankruptcy
Once default occurs, lenders have remedies, many of which are severe. These include:
- Acceleration of the loan (i.e., the entire balance of the loan becomes immediately due)
- Account sweeps under deposit account control agreements
- Foreclosure or sale of collateral, often under Article 9 of the UCC.
- Appointment of a receiver to run the business.
The Importance of Due Diligence
Due diligence is not just for lenders. Borrowers, too, should carefully understand their obligations, review exactly what collateral is pledged, confirm what financial reporting is required, and identify default triggers and cure rights.
As Weis advises, “If you’re borrowing money, get your CPA and lawyer involved early. It’s cheaper to do that upfront than to fix something later.” Even simple mistakes, like missing a UCC filing or mislabeling a guarantor, can result in litigation or financial loss.
A Relationship Built on Transparency and Communication
Commercial lending is often portrayed as an adversarial tug-of-war with borrowers fighting for flexibility and lenders fighting for security. In reality, the best lending relationships resemble partnerships.
- For borrowers, the priority is capital access, but the real key is sustainability: negotiating terms that allow the business to grow without tripping into default.
- For lenders, the priority is repayment, but the long-term value comes from supporting healthy, ongoing businesses rather than squeezing distressed ones.
A successful deal is not one where one party ‘wins’ and the other ‘loses.’ As Hutchinson observes, “A successful deal is one where the borrower gets the capital they need, and the lender gets comfortable that they’ll be repaid.”
That balance requires preparation, transparency, and an understanding of the collateral, covenants, defaults, and remedies that shape the deal. It also requires acknowledging that loan agreements are not just paper; they shape how businesses operate and survive.
In the end, the loan documents are only the starting point. What sustains the deal is the mutual recognition that success comes when both sides can live with the terms, communicate openly, and pursue their goals with confidence.
To learn more about this topic view Basic Concepts Applicable to All Borrowers & Lenders. The quoted remarks referenced in this article were made either during this webinar or shortly thereafter during post-webinar interviews with the panelists. Readers may also be interested to read other articles about borrowing & lending.
This article was originally published here.
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