Distributable reserves
LBOThe accumulated realised profits from which a company may lawfully pay a dividend, a company law limit separate from any credit agreement.
Also written: distributable profits, distributable reserve
Distributable reserves are accumulated realised profits less accumulated realised losses, and in the United Kingdom the Companies Act permits a dividend only out of them. Most European jurisdictions maintain some version of the same capital maintenance principle, protecting creditors by limiting what can leave the company for its owners.
This is a separate gate from the credit agreement, and candidates almost always know only the first one. Lenders can permit a distribution and the company can still be unable to declare a dividend, because permission to borrow is not permission to pay.
The problem bites hardest exactly where a sponsor wants a dividend recapitalisation. The entity holding the debt is usually an acquisition vehicle incorporated for the transaction. It has an investment in a subsidiary, a large loan and no trading history, so it has no accumulated realised profits at all regardless of what the operating group earns beneath it.
The routes around it are structuring rather than credit questions. Cash can be pushed up as a repayment of shareholder loan notes or intercompany debt rather than as a dividend, or reserves can be created by a reduction of capital, which for a private UK company is available on a solvency statement without a court application. Both need care on solvency and on timing.
Worked example
A UK bidco raises 150 of incremental debt for a recapitalisation and the credit agreement clearly permits the payment.
It cannot declare a dividend, because it has no realised profits of its own. The operating subsidiary's profits are not its profits until they are lawfully paid up to it.
The group either pays the cash up as a repayment of shareholder loan notes, or reduces bidco's share capital by solvency statement to create the reserve first. The sponsor receives the same money and the paperwork is entirely different.