Tumaini Agro Processors: Debt Service Capacity and a Second-Charge Proposal
Tumaini Agro Processors Ltd requests a KES 45 million five-year term loan at 14% fixed to fund a maize milling line. Annual instalments are on an annuity basis. Existing debt service is KES 6 million a year; projected EBITDA after the expansion is KES 26 million and projected EBIT is KES 21 million. Interest on the new facility will be approximately KES 6.3 million in year one, and existing interest is KES 2.5 million.
The facility letter requires a minimum debt service cover ratio of 1.30x and a minimum interest cover of 2.50x, tested annually. Proposed security is a second charge over land valued at KES 80 million, already charged to another lender for an outstanding KES 50 million. The directors have asked for an 18-month capital moratorium and a 1.15x covenant waiver for year one.
1. Compute the debt service cover ratio and interest cover, and state whether the facility as structured meets the covenants.
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Annual instalment (annuity factor at 14%, 5 years). Factor = 0.14 ÷ (1 − 1.14⁻⁵) = 0.14 ÷ (1 − 0.5194) = 0.14 ÷ 0.4806 = 0.2913. Instalment = 45,000,000 × 0.2913 = KES 13,110,000 per year.
DSCR. Total debt service = 13,110,000 + 6,000,000 = KES 19,110,000. DSCR = 26,000,000 ÷ 19,110,000 = 1.36x. Covenant 1.30x → passes, but with only 0.06x (about KES 1.1 million of EBITDA) of headroom.
Interest cover. EBIT ÷ interest = 21,000,000 ÷ (6,300,000 + 2,500,000) = 21,000,000 ÷ 8,800,000 = 2.39x. Covenant 2.50x → fails.
Conclusion. The structure fails the interest cover covenant in year one as projected. It also fails if a moratorium is granted: with no principal in year one, DSCR looks flattering (26 ÷ 6 = 4.33x) only because the principal is deferred, and year two DSCR collapses as the deferred instalments are compressed into four years (instalment ≈ 45 ÷ 3.9137... ≈ KES 15.4 million, DSCR ≈ 26 ÷ 21.4 = 1.21x, below covenant).
Verdict. DSCR is marginal and interest cover is short by KES 0.9 million of EBIT (2.50 × 8.8 = 22.0 million required against 21.0 million projected). Do not approve as submitted.
2. Assess the proposed security and recommend how the credit structure should be changed to be approvable.
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Security analysis.
- Land value KES 80 million; prior charge KES 50 million → effective headroom KES 30 million against a KES 45 million facility.
- The bank would be under-secured on a forced-sale basis even before applying a haircut. Applying a 20% forced-sale discount gives realisable value of KES 64 million, leaving KES 14 million cover - a 31% security margin, well below a normal 125% requirement.
- A second charge also creates enforcement risk: consent to charge, inter-lender priority terms and the first lender's right to block or control realisation all have to be negotiated.
Restructure options (preferred sequence).
- Reduce the quantum to KES 30 million, matching the unencumbered headroom plus a margin; the milling line can be phased.
- Lengthen tenor to 7 years. Instalment factor at 14%, 7 years = 0.14 ÷ (1 − 1.14⁻⁷) = 0.14 ÷ (1 − 0.3996) = 0.2332 → instalment ≈ KES 10.5 million; DSCR = 26 ÷ 16.5 = 1.58x and interest cover rises as principal amortises faster than straight-line.
- Repay existing debt first from the facility, releasing the first charge and taking a clean first charge over the KES 80 million property (headroom 80 × 0.8 = 64 million against 45 million - 142% cover).
- Reject the covenant waiver; instead set year-one covenants at 1.30x DSCR and 2.50x interest cover with a pricing step-up of 100bp on breach and an equity-cure right, so a breach is self-correcting rather than a waiver to be renegotiated.
- Grant a 6-month interest-only moratorium, not 18 months capital - 18 months simply defers the problem and breaches the covenant in year two.
- Add conditions precedent: audited accounts, a 12-month cash-flow forecast with a downside case at 20% lower EBITDA (DSCR would fall to 26 × 0.8 ÷ 19.11 = 1.09x - the bank must see how that is survived), key-person cover, and a charge over the milling line itself.
Decision. Approvable at KES 30–35 million, 7 years, first charge, 6-month interest moratorium, no covenant waiver.
3. The directors argue that EBITDA-based covenants are unfair because the business is seasonal. How would you respond, and what monitoring would you attach?
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Acknowledge the point, then test it. Seasonality is real for a maize processor - receipts peak after harvest and working capital swings. But seasonality does not change the annual debt service obligation, so an annual test is the correct one and the covenant is not unfair; it is measuring exactly the risk that matters.
Where the argument has merit. An annual test applied at a single balance sheet date can catch a firm at a seasonal trough with high borrowings and low cash. That is a measurement problem, not a covenant-level problem.
Response.
- Measure at the right date. Set the covenant test date at the end of the peak-collection quarter, and use a rolling 12-month EBITDA, so a single bad month cannot trip the test.
- Add a quarterly liquidity test instead of relaxing cover: minimum quarterly EBITDA-to-finance-cost of 2.0x and a minimum cash balance of one month's debt service.
- Verify the seasonality claim against 3 years of monthly management accounts. If the trough month's DSCR is below 1.0x, the concern is valid and the tenor should be extended rather than the covenant lowered.
- Do not accept the 1.15x waiver. A covenant set at a level the borrower only just misses is a tripwire, not a control; a waiver converts the tripwire into an annual negotiation.
Monitoring package.
- Monthly borrowing-base certificate on inventory and receivables, with an agreed advance rate (stock 50%, receivables 75% under 60 days).
- Quarterly management accounts within 30 days, audited accounts within 120 days.
- Monthly stock audit by an independent collateral manager during the first harvest cycle.
- A springing cash sweep: 50% of free cash flow above an agreed threshold applied to prepayment.
- Early-warning triggers requiring a borrower meeting if DSCR on a rolling basis falls below 1.40x or if any instalment is 5 days late.
- Insurance over stock and the milling line, assigned to the bank, plus key-person cover on the two founders.