Meaning
Contractual provisions in debt agreements allow a borrower to remedy a financial covenant breach by injecting new equity capital into the business. Utilizing an equity cure right prevents the lender from declaring an immediate default and accelerating the loan repayment.
Capital Injection
Borrower actions require the shareholders to contribute cash to the company, which is then used to reduce debt or increase earnings for covenant calculation purposes. This cash infusion restores the company’s financial ratios to compliant levels. This intervention provides the business with valuable time to stabilize operations or restructure its balance sheet.
Private equity sponsors frequently utilize this provision to support portfolio companies during market downturns.
Lender Protection
Credit agreements limit the frequency and consecutive use of this remedy to prevent borrowers from relying on equity injections as a permanent substitute for operational cash flow. Lenders require that the cash injected must be used directly to reduce the outstanding loan balance or be held in a restricted account.
Default Prevention
Financial stability is maintained by avoiding the costly and disruptive consequences of an acceleration or foreclosure process. When the cure is completed, the original covenant breach is legally deemed to have been resolved, and the borrower returns to good standing.
