Commercial Real Estate Lease Change of Control Equity Transfer Triggers
Unapproved lease change of control triggers permit landlords to accelerate rent, enforce forfeiture, or demand cash payments that directly erode deal value.
Structural Default
Meaning
Failure of a subsidiary company to meet its financial obligations can undermine the creditworthiness of its parent company without triggering a direct default on the parent’s debt. A structural default occurs when a parent company relies on dividends from its operating subsidiaries to service its own debt, but those subsidiaries are restricted from distributing cash. This situation arises from covenants in the subsidiary-level debt agreements that trap cash at the operating level.
It prevents the flow of funds to the holding company, causing a default at the parent level.
Cash Blockage
Trapping earnings at the operating level of a corporate group prevents the holding company from servicing its debt obligations. A structural default is triggered when subsidiary debt covenants block dividends to the parent entity.
Covenant Interaction
Designing debt agreements for both holding and operating companies requires a careful analysis of the cash flows between entities. The risk of structural default is increased when different lenders have claims at different levels of the corporate structure. Operating-level lenders typically include strict covenants that prevent the subsidiary from transferring funds to the parent when the subsidiary’s debt-to-equity ratio is high.
These restrictions ensure that operating cash is used to pay operating creditors first, leaving the holding company’s lenders with subordinated claims on the residual cash.
Investor Protection
Holding-company lenders protect themselves by demanding guarantees from the operating subsidiaries to bypass the subordination issue. To avoid a structural default, lenders to the parent company often require that the operating subsidiaries act as co-signers of the parent-level debt. This upstream guarantee ensures that the holding-company lenders have a direct claim against the assets of the operating subsidiaries.
It establishes parity with the operating-level creditors.