Equity cure

An equity cure is the clause of a facilities agreement that authorises the shareholders, in particular the private equity fund, to inject equity or subordinated debt to remedy a financial covenant breach shown in the compliance certificate. The ratio is recalculated to take the injection into account. In the traditional form, the injection is deemed to reduce net debt (debt cure). In the form most favourable to the borrower, it is deemed to increase EBITDA (EBITDA cure), which has a much stronger effect on a leverage test. In the European mid-market, private debt agreements prohibit cures in two consecutive quarters and cap the total number of cures at four or five over the life of the financing, four being the most frequent case. EBITDA cures have spread in Europe on the largest transactions. There they are limited to one or two uses over the life of the loan. The deadline for injecting the funds after delivery of the certificate is set at around 20 business days in Europe, a period during which the lenders cannot demand early repayment on that ground. Lenders generally refuse to let the same injection count twice, as EBITDA and as debt reduction, and prohibit an injection counted as EBITDA that exceeds the amount required.

A group carries €150m of net debt against €28m of EBITDA over twelve months, a leverage of 5.36x against a 5.0x covenant. With a debt cure, the shareholders must inject €10m to bring net debt down to €140m. With an EBITDA cure, a €2m injection is enough, because it raises the EBITDA taken into account to €30m and the ratio to 5.0x.

• How the injection is counted: reduction of net debt or increase in EBITDA.
• The number of cures permitted, consecutively and over the life of the loan.
• The deadline for the injection after delivery of the compliance certificate.
• The treatment of an injection above the amount required and its effect on the following tests.
• The deemed cure clause: the breach disappears if the next test is met.