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NEGOTIATING AND DRAFTING CLAUSES IN LOAN AGREEMENTS: EVENTS OF DEFAULT
by Dr. Vinod K. Agarwal
(Article Reference: Document No.15, March 2001)



(d) Cross Default

As has been discussed above, cross default means a default in respect of any of the payment obligations by the borrower under any loan agreement other than the loan agreement in question. The following are some of the illustrations of this clause:

"Any indebtedness of the Borrower is not paid when due, any indebtedness of the Borrower is declared to be or otherwise becomes due and payable before its specified maturity, or any creditor or creditors of the Borrower becomes entitled to declare any indebtedness of the Borrower due and payable before its specified maturity." UNITAR DOC, Art. 16.1(d)

"Any part of the principal amount of any loan in a currency other than the currency of the Borrower having an original maturity of more than one year shall, in accordance with its term, have become due and payable in advance of maturity because of event of default as provided in relative Contractual instruments, or any security for any such loan shall have become enforceable." NORDISKA p. 13,

"if the Borrower (I) fails to pay any amount due, under any loan, guarantee or security agreement, on the due date or within any applicable grace period; or (ii) defaults under any other term of any loan, guarantee or security agreement to which it is a party which would allow (assuming the giving of appropriate notice if required) the holder or holders of such loan, guarantee or security to accelerate such obligation;" E D C, clause 9.01(g)

This is one of the most undesirable clause. Under the cross default clause a lender could declare a Borrower who has defaulted, or who is anticipated to default, on an otherwise unrelated agreement to be in default on its agreement as well. If a Borrower commits a default as per the events of default clause in any other agreement, it will constitute and event of default under this agreement also. It is not necessary that the other agreement should be with the same lender. It could be with any other lender, institutional or otherwise.

The object of this clause is to protect the lenders from likely failure of the Borrowers to pay the principal, interest and other sums due to the lenders. If a Borrower has not been able to pay a debt under any other agreement, it is presumed by the lender that he will not be able to pay the principal, interest and other dues under his agreement as well. Further, as the clause of cross default has been drafted in some of the existing agreements, it is very wide. It may include indebtedness even under non-loan agreements, such as procurement agreements or service agreements. The cross default event as in the first case applies to indebtedness. Indebtedness is defined as follows:

"Indebtedness" means all obligations of any person from time to time (present or future, actual or contingent, as principal or surety or otherwise) for the payment or repayment of money". UNITAR Doc. Article 1

This definition is very wide. It covers all obligations for payment or repayment of money. This clause, as at present, does not make any distinction between internal indebtedness and external indebtedness. An obligation to pay money to any person within the country and in the domestic currency is also covered by it. In fact, this clause requires proper drafting. A domestic indebtedness can be settled by a sovereign Borrower, if he feels that it can cause cross default, by printing extra domestic currency and paying off the lenders. Hence, indebtedness in this clause should be confined to external indebtedness and not to simply indebtedness. Of course, the meaning and extend of external indebtedness itself is a subject of discussion.

The second illustration specifically says, "any loan in a currency other than the currency of the Borrower". Therefore, this clause does not cover domestic indebtedness. It generally covers external indebtedness. Further, every external indebtedness is also not covered by it. It covers only such external indebtedness which has original maturity of more than one year. Therefore, those loans which have been taken by a Borrower for a period of less than one year and if he commits a default in the repayment, it will not be a cross default. However, the second clause contains one more stipulation, that is, "security for any loan shall have become enforceable."

In loan agreements generally the expression "external indebtedness" is defined. One such definition is as follows:

"External Indebtedness means any indebtedness which is: (a) dominated, payable or optionally payable otherwise than in the currency of the borrower's country; or (b) payable to a person incorporated, domiciled, resident or with its head office or principal place of business outside the borrower's country." UNITAR Doc. Article 1

The language of the third clause is still wider. It covers not only the loan agreements but guarantee and security agreements also. The loan agreement does not define the expression "security agreements". In the absence of a definition of this expression, it is difficult to comprehend the meaning and scope of "security agreement". Such vague and wide clauses should, as far as possible, be avoided in a loan agreement. In view of the aforesaid, it is necessary that the Borrower should be very careful. The contents of this clause should be properly and carefully negotiated with the lenders after thoroughly understanding of implications thereof. A little mistake at this stage can prove fatal subsequently.


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