Loan documents deteriorate further following Neiman Marcus lawsuit

Companies emboldened by a favorable court decision for Neiman Marcus are taking advantage of the outcome to include language in loan documents curbing how corporates allocate the collateral packages of their subsidiaries, making it even harder to recover losses.

The language, which stops individual creditors from taking legal action without the agreement of a majority of lenders, is a win for borrowers and yet another sign of eroding lender protections since last year as demand for loans has exceeded supply.

Typically, a lender only required approval from the administrative agent to proceed with legal action.

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“We believe this new language from borrowers is in response to (Neiman Marcus’) litigation,” said Valerie Potenza, a senior covenant analyst at credit research firm Xtract Research.

Distressed fund Marble Ridge’s case, which followed the luxury retailer’s decision to transfer MyTheresa assets from the subsidiary to the parent, was dismissed last month due to a lack of standing.

In December, the loan and bond holder had claimed that Neiman Marcus’ decision to reallocate its profitable e-commerce unit MyTheresa, was stripping the company of a first-lien claim on the subsidiary’s collateral and was fraudulent.

Since then, retailer PetSmart has included provisions in loan documentation limiting an individual lenders’ right to sue the borrower, according to a report from Xtract Research.

The borrower-friendly environment hinders the chance for more balanced credit agreements especially given the term loans’ loose language was drafted in agreements as far back as six years ago, market sources said.

“Once the horse is out of the barn and a mile down the road, (lenders) are stuck with trying to get an agreement based on something that is not quite the collateral you thought you were getting,” said Tyson Benson, an intellectual property attorney with Harness Dickey.

Without collateral as a form of protection, lenders could be left relying on little other than the performance of a borrower to repay debt, according to Alex Shvarts, the chief technology officer at alternative investor FundKite.

“If you have limited protections … It’s no longer a leveraged deal, but a roll of the dice,” Shvarts said. “It’s important for investors to tighten up underwriting guidelines and block such transfers from happening.”