Covenant lite

Covenant lite is a specific omission rather than an absence of terms. The negative covenants restricting debt, disposals and distributions all remain, and are tested when the borrower does one of those things.

What goes is the quarterly maintenance test that would otherwise trip on deteriorating performance alone. A company that simply trades badly therefore never breaches, and lenders lose the early trigger that would have brought them to the table.

It became the norm in large buyouts because loan demand from CLOs and credit funds outran supply, and borrowers used that leverage. Revolver lenders often retain a springing covenant that activates only once drawings pass a threshold, which was the compromise that made the structure acceptable.

The consequence shows up in restructurings: problems surface later, by which point less value remains, and recoveries have been correspondingly lower.