By: Frank Skelly
Why senior lenders might want to consider entering into inter-creditor agreements with commercial construction cash management & funds control companies.
We are frequently approached by sub-contractors who are in need of our services, however if they have an existing credit line, its often a deal killer. When banks and senior lenders provide borrowers with credit lines, they usually take a 1st position security interest in the borrower’s assets, which includes their accounts receivables.
One of the best ways for a commercial sub-contractor to finance their construction projects is with a cash management & funds control company that uses their accounts receivable as collateral. But if the sub-contractor already has a line of credit they are usually out of luck. Senior lenders usually take a blanket security interest in all assets which prevents the sub-contractor/borrow from using their accounts receivables as collateral.
Typically banks and senior lenders are hesitant to give up their security interest in the borrower’s assets however banks should seriously consider inter-creditor agreements which, if drafted properly, can carve out the accounts receivable while providing all parties with the protection they need. A well-crafted inter-creditor agreement can actually provide the senior lender with an additional layer of security that they wouldn’t otherwise enjoy. Here are a few of the things a senior lender might want to consider;
- A project specific credit facility secured with accounts receivables would allow an existing borrower to capitalize on new opportunities and improve cash flow, without taking on additional debt.
- On financed projects a borrower’s receivables would be available much earlier in the billing cycle, usually within a couple of days instead of a couple of months.
- A senior lender could have the option of being notified each time the sub-contractor/borrower wanted to draw down on the project facility and the opportunity to approve (or deny) each funding.
- As is customary with construction cash management companies, a Notice of Assignment would be served upon the sub-contractor’s customers (account debtors). This would result in all funds being routed through a lockbox so in the unlikely event of a default the senior lender would be spared the arduous (and unrealistic) task of identifying (and intercepting) proceeds from the sub-contractor/borrowers’ receivables. Instead, they would only have to make one call to the cash management company.
- Provided the cash management company doesn’t have a performance clause in their agreement the inter-creditor agreement can actually reduce the senior lenders risk. Absent any performance clauses (such as monthly minimums, guaranteed fees and term period commitments) the cash management company would only be entitled to the funds advanced plus a small fee in the event the senior lender declares a default.
- As long as the cash management company is providing non-recourse financing and taking the credit risk, the borrower and the senior lender would be insulated from any loss related to account debtor insolvency.
- Finally, an inter-creditor agreement can be drafted to provide the senior lender with the ability to terminate the agreement at any time and for any reason.
The key is to find a cash management company that is bank and senior lender friendly!