Start from a covenant schedule a credit officer has signed off, then let the agent run the calendar. It chases compliance certificates and accounts, recalculates each test using the facility agreement's own definitions, and drafts a monitoring note. A person confirms every result. Breach, waiver and reservation of rights decisions stay with the credit team and legal.
What is covenant monitoring, and who owns it?
Covenants are promises a borrower makes in the facility agreement. Financial covenants test ratios such as interest cover or leverage at set dates. Information covenants require accounts and compliance certificates by deadlines. General undertakings cover insurance, security, disposals and change of control. Monitoring means knowing, for every facility, what is due, whether it arrived, and whether the borrower is compliant.
The relationship manager usually owns the borrower contact, credit risk owns the assessment, and legal is involved when a breach is possible. The agent serves all three. It does the tracking and calculation that often slip when a portfolio is large and the deadlines are spread across the year.
What are the steps?
- Agent, depth 1: extracts the covenants. From the facility agreement and any amendment letters: each test, its definition, its level, its test dates and any cure rights.
- Person: signs off the schedule. A credit officer, with legal where definitions are complex, confirms the extraction. Everything after rests on this step.
- Agent, depth 1: keeps the calendar. Due dates for compliance certificates, accounts, insurance renewals and valuations.
- Agent, depth 2: drafts reminders. The relationship manager sends them. Once certified, routine reminders on an agreed template can go at depth 3.
- Agent, depth 1: recalculates the tests. From the borrower's financial statements, using the agreement's definitions, not generic accounting ones. It compares its result with the borrower's own certificate.
- Agent, depth 2: drafts the monitoring note. Pass or fail for each test, headroom, discrepancies with the borrower's figures, and missing items.
- Person: decides. The credit officer confirms the result. On a breach or likely breach, the credit team and legal decide on a waiver, reservation of rights or other action. The agent drafts letters on instruction.
- Agent, depth 1: sets the breach flag. Any drawdown request on a facility with an open breach is held for a person.
| Step | The agent does | Depth | Stays with a person |
|---|---|---|---|
| Extract | Builds covenant schedule from documents | 1 | Signing off the schedule |
| Calendar | Tracks deliverables | 1 | Agreeing extensions |
| Reminders | Drafts, then sends approved reminders | 2, then 3 | Escalated chasers |
| Recalculate | Tests covenants using agreed definitions | 1 | Confirming the result |
| Note | Drafts monitoring note | 2 | Accepting the note |
| Breach | Drafts letters on instruction | 2 | Waiver, reservation of rights, default |
| Drawdown link | Flags open breaches | 1 | Releasing any drawdown |
Which controls apply, and what evidence does each leave?
Signed-off schedule. The covenant schedule is versioned and each version carries the officer's sign-off. Evidence: who approved which definitions, and when.
Shown workings. The recalculation is filed line by line: figure, source page in the accounts, adjustment allowed by the definition, result. A reviewer can follow every number.
Comparison with the borrower's certificate. Differences are listed, not resolved. Evidence: a discrepancy list attached to the note, with the officer's resolution.
Provenance. Audited accounts and the borrower's own compliance certificate are declared by the borrower. Your facility records are sealed. An external valuation is external. The note shows each class so nobody mistakes a borrower's claim for the bank's own finding.
Drawdown hold. The breach flag feeds the bounds of any agent handling drawdowns. Whether an agent can release loan funds to a borrower depends partly on this flag; with a breach open, the answer is held.
What should you measure?
- Deliverables overdue, by days late. The basic hygiene measure.
- Discrepancies between the agent's calculation and the borrower's certificate, and how many the officer resolved in the borrower's favour. Many such resolutions suggest the definitions in the schedule are wrong.
- Breaches identified after the test date plus the reporting period. Each one is a late finding; review the cause.
- Time from receipt of accounts to signed monitoring note.
- Drawdowns requested during an open breach, and how they were resolved.
Tight headroom on a test that still passes is a different signal from a breach. Monitoring covenant headroom covers how to track the trend between test dates.
Where does it usually go wrong?
Generic definitions. The agent calculates EBITDA the accounting way, but the agreement adds back specific items and excludes others. The test passes in the agent's note and fails under the contract. Load the definition, not the label.
Amendments not loaded. A reset covenant level or a one-off waiver sits in a side letter that never reached the schedule. Every amendment letter must trigger a schedule review.
Cure rights missed. Some agreements let the borrower cure a breach with new equity within a window. The agent should flag the window; whether the cure is valid is for the officer and legal.
Words that waive. A friendly reminder that says "no problem, send it when you can" may be read as accepting the delay. Draft communications to borrowers about missed deadlines go to the relationship manager, and anything touching a breach goes through legal first.
Monitoring covenants is one input to monitoring early warning signals in a loan book. The bounds that apply to all bank agents are in AI agents in banking.
Questions people ask
Can the agent accept a compliance certificate on its own?
It can record that the certificate arrived and check it against its own calculation. Accepting it as satisfying the covenant is the credit officer's call.
What about facilities with dozens of lenders?
In a syndicated deal, the agent bank's team may do the formal monitoring. Your agent can still recalculate the tests for your own view, but communications go through the agreed channel.
Should the agent read management accounts as well as annual accounts?
Yes, where the agreement requires them. Management accounts are unaudited, so the note should label figures drawn from them clearly.