By Gregory M. Prekupec & Rahul Gupta
Events of default occur by the existence of a certain action or omission which violates an aspect of an underlying loan agreement. Such event enables the lender to declare the same and to subsequently enforce its rights and remedies to make itself whole, as much as possible.
However, for a variety of reasons, lenders are often willing to negotiate with defaulted borrowers, for instance, by providing them with additional time to cure the default(s). As such, if the borrower is able to cure the default, then the loan agreement can resume.
The underlying loan agreement will provide the violations which would constitute an event of default, which ordinarily include the borrower ceasing its operations, the borrower’s failure to pay any principal amount or to perform any obligation under the loan agreement, the commencement of any bankruptcy or reorganization proceedings, and so on.
Lender Remedies
As mentioned above, the occurrence of an event of default can entitle the lender to pursue its rights and remedies under the underlying loan agreement. There are four general routes available to a lender when dealing with a defaulted borrower:
A. Performance of the remedies afforded to the lender pursuant to the underlying loan agreement;
B. Litigation to enforce the same;
C. Advancement under the Personal Property Security Act (Ontario) (“PPSA”), and,
D. Advancement under the Bankruptcy and Insolvency Act (Canada).
Each of these four remedies will be explored in greater detail below. A lender may have additional recourse should the borrower’s subsidiaries, affiliates, shareholders, or other entities also be party to the loan agreement.
Enforcement of Contractual Remedies
As an underlying rule, even if such loan agreement does not necessitate the borrower being notified of enforcement activity, notice is nonetheless required.
Depending on the extent of the event of default, a lender will likely commence by providing the borrower with a notice of default or demand letter which explains the nature of the default and any cure periods being afforded to the borrower. Subsequently, if the borrower fails to satisfy any arrears or omissions pursuant to any granted cure period, the lender can do any of the following: refuse to make future loan advances (depending on the structure provided in the loan agreement), terminate the loan agreement, or accelerate the loan.
A. Future Loan Advances
Loan advances are contingent upon the borrower’s compliance with all aspects of the loan agreement. As such, the occurrence of an event of default enables a lender to refuse to make any further loan advances. Syndicated credit facilities are similar such that each lender in the syndicate would refuse the extension of further credit.
Well-drafted loan agreements would trigger certain covenants upon an event of default, such as prohibiting a borrower from issuing dividends or pausing all acquisition activity. These remedies, particularly when combined, can have a devastating effect on the borrower’s business operations, which should incentivize immediate compliance with the loan agreement and cooperation with the lender(s).
B. Termination
Loan agreements afford lenders two additional remedies upon an event of default: the termination of any existing commitments for future loans and the acceleration of all amounts due, including any associated costs. The latter will likely be structured as an automatic remedy which would not require the lender providing additional for the same.
C. Acceleration
Acceleration is the automatic and immediate obligation of the borrower to pay all outstanding loan amounts and all associated costs. The borrower’s non-compliance with the same empowers the lender to enforce its rights through litigation or compel the borrower into bankruptcy or insolvency proceedings.
Despite the above, lenders often do not use this remedy as it would allow other lenders to also accelerate their loan, which increases the likelihood the borrower filing for bankruptcy. Lenders may, however, consider this remedy attractive if the borrower’s bankruptcy or insolvency is inevitable or the lender has lost faith in the borrower’s principals operating the business in a commercially reasonable fashion.
Alternative Remedies
As mentioned above, lenders may wish to negotiate with the borrower instead of immediately declaring an event of default. As such, lenders and borrowers may be able to negotiate for:
A. a waiver of the event of default;
B. the lender and borrower entering into a forbearance agreement where the lender will not declare an event of default for a certain time period;
C. amending the loan agreement;
D. an equity cure, where the borrower can receive an equity injection from its shareholder(s) to be provided for the funds required to settle any arrears; or
E. the requirement the borrower divest from its subsidiaries.
As a matter of commercial practicality, it is best practice for borrowers to remain transparent with their lenders throughout the lifecycle of the loan agreement. This creates an open and collaborative environment which invites the possibility of reasonable compromises rather than automatic deference to litigation or bankruptcy/insolvency proceedings. However, this is not to excuse the lender conducting comprehensive reviews of the borrower’s operations upon the occurrence of an event of default to confirm the borrower’s financial viability moving forward.
Additional Considerations
Regardless of the avenue a lender decides to pursue in regards to a defaulted borrower, it must consider all aspects, including the ones listed below.
A. Default Interest
Loan agreements include default interest provisions which charge a certain interest rate on the outstanding amount and is incurred until the lender is made whole.
B. Letters of Credit
An event of default leads to no additional letters of credit being issued. In addition, the lender may require the borrower provide a cash deposit to be used as additional collateral. The borrower refusing which would entitle the lender to claim such amount against the borrower during legal proceedings.
C. Set Off
The lender can off set any deposit it holds from the borrower and use such funds to repay a portion of the defaulted loan.
D. Guarantors
If the loan agreement provides for a guarantee from a corporate affiliate of the borrower, or a personal guarantee of the borrower’s director(s), then the lender is entitled to treat the guarantor as the borrower. In other words, the lender can enforce its rights against any or all of the borrower(s) and guarantor(s). However, this would also require the guarantor receive the same notices as the borrower.
E. Collateral
If the loan agreement provides for a guarantee from a corporate affiliate of the borrower, or a personal guarantee of the borrower’s director(s), then the lender is entitled to treat the guarantor as the borrower. In other words, the lender can enforce its rights against any or all of the borrower(s) and guarantor(s). However, this would also require the guarantor receive the same notices as the borrower.
F. Enforcement Issues
There are a number of enforcement-related issues which may arise.
First, there may be other creditors, including government agencies such as the Canada Revenue Agency, which also have amounts owing to them. Therefore, a lender must understand its order in repayment priority. For instance, tax arrears can carry a supermajority such that they override all other secured claims. It is also important to determine the existence of intercreditor agreement(s) and subordination agreement(s). In so doing, senior lenders may be prioritized over subordinated creditors or the senior lender may be limited in its enforcement abilities.
Second, if the borrower operates in a number of jurisdictions, the lender must understand the procedural issues, if any, it will have to undergo to enforce the loan agreement.
Conclusion
In navigating the complex landscape of lender enforcement, it is critical for lenders to adopt a strategic and legally sound approach when responding to borrower defaults. From out-of-court workouts and enforcement under the PPSA, to formal insolvency proceedings and actions against guarantors or collateral, each remedy must be exercised with consideration of its implications, procedural requirements, and the overarching duty of good faith. A well-drafted loan agreement—paired with proactive monitoring and clear communication—remains a lender’s most powerful tool. By understanding and leveraging the full spectrum of remedies available under the law, lenders can not only protect their financial interests but also promote constructive resolutions that mitigate risk and preserve long-term value.
This article was informed by Practical Law Canada and industry practice.