What it means
Signed agreements are rarely perfect for their whole life, because circumstances change, a borrower may need more time, or the parties may want to adjust a price or limit. Rather than tear up the original and start over, they usually sign an amendment that states exactly which clauses are changed.
This is not the same as the US constitutional amendment of the same name, which deals with speech, religion and assembly. Amendments are numbered in order.
The first change is called the First Amendment, the second is the Second Amendment, and so on, and the full agreement is understood as the original plus every amendment. Lenders often call the combined package the amended and restated agreement when the changes become too many to follow.
A typical first amendment to a loan agreement might extend the maturity date, change the interest margin, reset a financial covenant (a promise to keep a ratio within limits) or allow a new subsidiary to join. In return, the lender might ask for an amendment fee, a higher margin or extra security.
The amendment spells out the old wording, the new wording and the date on which the change takes effect. For a manager, the key point is that an amendment is legally binding like the original agreement.
Even a small change can affect cash flow, covenants or the debts shown on the balance sheet, so finance teams should model the effect before signing. Disclosure may also be needed, for example in the notes to the accounts or in filings by listed companies.
Good practice is to keep a clean, current copy of the agreement that incorporates all amendments. This prevents mistakes where people refer to an old version and miss a changed clause.
It also makes life far easier for auditors, lenders and new team members.
In practice
Real-world examples.
Example
A property company is about to breach a loan-to-value covenant after a valuation falls. Its bank agrees to a first amendment that resets the limit for 12 months in exchange for a fee, avoiding a default.
Example
A software firm has signed a distribution agreement with a reseller. After six months the parties sign a first amendment that adds a new territory and updates the commission percentage.
Example
Two companies have agreed a merger, but regulatory approval is taking longer than planned. A first amendment to the merger agreement moves the long-stop date, which is the deadline after which either side may walk away.
Formula
Calculation
When an amendment changes the interest margin, the effect on cost can be estimated directly.
Change in annual interest cost = Outstanding principal x Change in margin
Worked example: a company has a $5,000,000 term loan priced at a margin of 2.0% above the base rate. In its first amendment, the lender agrees to extend the maturity by two years in return for raising the margin to 2.5%.
Change in margin = 2.5% - 2.0% = 0.5%
Change in annual interest = $5,000,000 x 0.5% = $25,000
If the lender also charges a one-off amendment fee of 0.2% of principal, the fee is $5,000,000 x 0.2% = $10,000. Over the first year, the extension therefore costs $25,000 + $10,000 = $35,000.Case study
Seen in the real world.
Lakeshore Brewing is a fictional beverage company with a $4,000,000 bank facility. A summer of poor weather cut sales, and the finance manager forecast that the company would breach its interest cover covenant at the next test date. She approached the bank early rather than waiting.
In this illustrative case, the bank agreed a first amendment that relaxed the covenant for two quarters, added a monthly reporting requirement and increased the margin by 0.25%. Lakeshore signed it, updated its forecast model and shared the new terms with its board. The story shows that an amendment negotiated before a breach is far better than a waiver requested after the event.
Watch out
Common mistakes.
- Treating an amendment as a minor administrative document. It is legally binding and can change costs, covenants and rights in important ways, so it deserves the same review as the original.
- Agreeing changes by email or phone without signing a formal amendment. Many agreements require changes to be in writing and signed, so informal understandings may not be enforceable.
- Forgetting to check what else the change affects. A new maturity date or margin can alter accounting classification, guarantees given by other group companies and the terms of other debts.
Questions
People also ask.
What is the difference between an amendment and a waiver?
An amendment permanently changes the wording of the agreement, while a waiver is a lender's agreement not to enforce a particular breach, usually for a limited time.
When does a series of amendments become an amended and restated agreement?
When the changes are so many that readers struggle to follow them, the parties often sign a new combined document that contains all the current terms.
Does the first amendment need the other party's consent?
Yes. Both parties normally have to sign, and some agreements need approval from a set percentage of lenders for particular changes.
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