Anonymised, illustrative composite. The sponsor was ready to write a cheque the day the covenant test failed. Nothing in the credit agreement said that money could fix anything.
At a glance
An independent sponsor bought a industrial-parts distributor outside Guelph for $8,400,000, using $5,200,000 of senior secured term debt from a commercial finance lender, a $1,600,000 seller-financed vendor take-back note subordinated to the bank, and $1,600,000 of sponsor equity. The covenant package was ordinary for a facility that size: a quarterly total-leverage test capped at 3.50x trailing EBITDA, a fixed-charge coverage floor, and standard negative covenants. Nobody on either side of the closing table raised whether the borrower could cure a breach with cash, because nobody expected one.
Quarter 14 was soft: a large customer delayed a program restart, and trailing EBITDA fell enough to push total leverage to 3.85x against the 3.50x cap. The compliance certificate reported it honestly. The sponsor, whose fund still had committed capital, offered to inject $400,000 immediately — enough, on the borrower’s own math, to bring pro forma leverage back under 3.50x that same quarter.
The credit agreement had no answer to that offer. It had an events-of-default article, a remedies article, and a standard acceleration clause. It did not have an equity cure provision — the clause, common in larger sponsor-backed leveraged facilities, that lets a borrower add a permitted equity contribution to EBITDA (or apply it to debt) for covenant-testing purposes, usually capped at a set number of uses over the facility’s life. Without that clause, the sponsor’s cash was just cash. It could pay down the loan. It could not retroactively make quarter 14 compliant, because nothing in the document said it could.
Total leverage 3.85x against a 3.50x maximum — a 10% overage on the ratio, worth roughly $290,000 of EBITDA shortfall on this facility’s multiple. The sponsor’s offered cure, $400,000, was more than enough to close that gap in dollar terms. It closed none of it in contract terms.
The lender’s forbearance letter, once negotiated, cost the borrower 75 basis points on $5,200,000 for twelve months (about $39,000), a $45,000 waiver and amendment fee, and the $400,000 itself — applied as a mandatory prepayment against the term loan, not as a covenant adjustment. Total cash cost of the episode: roughly $484,000, against a covenant gap that $400,000 of new equity would have closed outright had the document allowed it.
There is no statute here, and that is the point of the file. Whether a borrower may cure a financial-covenant breach by injecting cash is not a default rule of Canadian contract or lending law — it is purely a function of what the credit agreement says. Courts enforce a credit agreement as written; they do not imply a right to cure a covenant default merely because the borrower is solvent, willing and able to fix the number. An Event of Default defined by a ratio is triggered the moment the ratio is breached, full stop, regardless of what happens the next day.
Where an equity cure right exists, it is a heavily negotiated mechanic, not boilerplate: how many times it can be used over the facility’s life (often capped at two uses in any four consecutive quarters), whether the contribution is added to EBITDA for the test or applied as debt paydown, and an express bar on using it to cure the same quarter twice (no “double dip” between the EBITDA add-back and the debt-reduction effect of the same dollar). None of that exists by default. Silence does not default in the borrower’s favour; it defaults to the lender’s discretion, because the remedies article of nearly every credit agreement gives the lender the choice whether to accelerate, waive, or negotiate once a default has occurred — and a waiver, once a default has already occurred, is a favour the lender can price, not an entitlement the borrower can invoke.
One statute is worth checking and ruling out rather than assuming away: Ontario’s Courts of Justice Act gives a court a general power, at s. 98, to “grant relief against penalties and forfeitures, on such terms as to compensation or otherwise as are considered just.” That power has a real paradigm case — a deposit or a security interest forfeited outright on breach, disproportionate to the loss actually caused — and it does not fit this file. Nothing was forfeited here: the lender never accelerated, seized collateral or triggered any clause that took something away from the borrower automatically. It exercised discretion to negotiate a forbearance, and a negotiated forbearance fee is not a penalty or a forfeiture a court has anything to grant relief against — it is a term the borrower agreed to in exchange for the lender not doing what the credit agreement otherwise entitled it to do. Had the lender instead accelerated outright on the covenant breach, a borrower might have had a genuine, if uphill, argument for equitable relief against that acceleration; this lender never did, which is exactly why the forbearance route cost real money instead of costing nothing.
This is a different mechanic from a dispute about how a covenant is measured. See debt service that failed on a seasonal low month for a file about whether a ratio was tested on the right trailing period. Here the measurement was not in dispute; the covenant was correctly calculated and correctly breached. The only question was what happened next, and the answer was: whatever the lender decided.
The lender agreed to waive the quarter-14 default rather than accelerate, but on its own terms: a forbearance agreement carrying a 75 bps pricing increase for twelve months, a $45,000 fee, and a requirement that the sponsor’s $400,000 be applied as a mandatory prepayment of principal — reducing the loan balance and next quarter’s covenant denominator, but doing nothing to un-breach the quarter that had already occurred. The agreement was also re-papered going forward with a defined equity cure right: two uses in any rolling four quarters, contribution treated as an EBITDA add-back for testing purposes only, no double-dip against debt paydown, and a 10-business-day notice-and-cure window running from delivery of the compliance certificate.
The remedies article also gave the lender the right to accelerate outright rather than negotiate, and nothing in the document constrained that choice once the covenant was breached. Acceleration would have triggered the cross-default provision in the subordinated vendor take-back note, putting the seller’s $1,600,000 note in default on the strength of a single quarter’s ratio, regardless of the sponsor’s cash sitting ready to fix it. The borrower’s only leverage in that negotiation was the relationship and the lender’s own preference for a performing, re-priced loan over a workout — not any right written into the credit agreement.
The tell was in the financing documents at diligence, not at the breach. A leveraged acquisition facility with a sponsor able to inject follow-on capital and no equity cure clause is a gap a borrower’s counsel can catch and price before signing, when it costs a redline, not a forbearance fee. By the time the covenant actually failed, the gap was no longer a drafting point; it was the lender’s leverage.
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