Covenants confusion sparks FTSE fears of conflict with banks

Banks could be forced to call in company debts because of confusion over the
impact of IFRS on banking covenants, a fear that has prompted a FTSE 100
treasurer to warn that clarification was needed or companies would find
themselves in conflict with their lenders.

Matthew Hurn, the treasurer of DSG International, the FTSE 100 owner of PC
World and Currys, warned there was still no established covenant benchmark using
IFRS.

Covenants are the rules that govern a company’s borrowing arrangements, but
it is yet to be clarified how IFRS will be applied, prompting fears that
misunderstandings could cause breaches. Hurn said there were still no
definitions for what covenant rules should be ‘without referring back to UK
GAAP’.

So far companies and banks have skirted the issue by using frozen UK GAAP
numbers for covenant purposes – but the cost of constantly restating numbers to
UK GAAP will be too onerous.

Martin O’Donovan, technical partner at the Association of Corporate
Treasurers, said companies could find themselves in difficult circumstances
because of this uncertainty.

‘There is potential for companies to mistakenly breach banking covenants
because of a misunderstanding of how covenants are affected by IFRS,’ O’Donovan
said.

‘Banking covenants have been dealt with on a frozen GAAP basis until now, but
the constant restatements this will require are not sustainable,’ O’Donovan
added.

The risks posed by the continuing lack of clarity around covenant rules has
become a growing concern for finance experts.

Ian Fleming, the treasurer of department store Debenhams, urged FDs and
finance teams to handle covenant agreements carefully.

Despite these concerns, banks have still not reacted to the issue. A
spokesman for the British Bankers’ Association said the industry was not
involved in discussions on the matter.