Cash Dominion: a Worked Example

An asset-based lender lends against receivables, and a receivable is a promise that becomes cash. The lender's security is only as good as its hold on that cash at the moment the promise is kept. If customers pay into an ordinary operating account the borrower can spend from freely, the receivable that backed the loan becomes money the borrower may use for anything, and the lender holds security over a ledger that is quietly being replaced by new invoices, or not replaced at all.

Dominion closes that gap. Collections run through a collection account and are applied to the loan, usually each business day. The loan balance falls as the collateral is collected and rises only when the borrower draws again, which it can do only within availability. The lender sees, daily, its collateral turning into repayment.

Three choices make up the clause. The first is whether dominion is full, running from the first day, or springing, held in reserve. The second is the trigger: a minimum level of availability, the length of time it must be breached before dominion starts, and whether an event of default triggers it immediately. The third is the exit: many agreements let dominion lapse only after availability has stayed above the trigger for a longer period than it took to start, so a borrower cannot slip in and out of it week by week. The levels and periods are negotiated deal by deal.

Where it applies, the law makes control matter for more than convenience. In the UK, the House of Lords held in 2005 ([2005] UKHL 41) that a charge over book debts was floating where the company was free to use the proceeds once collected, so a lender wanting fixed security over receivables needs real control of the account in practice, not only on paper. Under springing dominion the borrower has that freedom until the trigger, which is one reason many UK asset-based lenders buy the receivables rather than charge them. In Australia, a bank account the borrower may use in the ordinary course is a circulating asset under section 340 of the Personal Property Securities Act 2009 unless the secured party has control of it and, where it is not the account bank, registers disclosing that control; employee entitlements are paid ahead of security interests in circulating assets in a winding up or receivership. In New Zealand, preferential claims rank ahead of security over receivables and inventory and their proceeds whether or not the account is controlled, unless the lender bought the receivables for new value and perfected its interest.

An ice-cream maker in New Zealand, constructed for this page like every figure in it, has a US$12m asset-based revolver with springing dominion. Dominion starts if availability is below the greater of US$1.5m and 12.5% of the lower of the borrowing base and the limit for five consecutive business days. These levels belong to the example, not to the market. Its ledger and stock peak in summer and shrink through winter, while its drawn balance, which funds a year-round workforce, does not fall as fast.

In the first week of July availability sits at US$1.0m for five business days and dominion springs. From the next day, the business's customers pay into the controlled account and the money goes straight to the loan:

Nothing about dominion has reduced what the business can borrow; its base did that. What has changed is that every payment the business makes now passes through a drawing request the lender sees and can refuse, if the base is overstated or a default has occurred. Availability narrowed by US$0.14m in a day because the business paid out more than it invoiced, and in July that is the trend to watch. To get out, the agreement here requires availability above the trigger for thirty consecutive days, which for this business means the spring.

DEFINED IN ONE PARAGRAPH → · THE SPRINGING COVENANT → · ASSET-BASED LENDING →

A cash sweep in a term loan applies a share of surplus cash, measured once a year or half-year, to prepay debt. Dominion applies every receipt, every day, to a revolving loan that can be redrawn. One shortens the life of a term loan; the other changes who controls the working capital of a business that keeps trading.

Dominion also differs from a financial covenant, though in asset-based lending the two often spring at the same level of availability. A covenant breach is an event of default that gives the lender rights. Dominion is a change in how the facility operates, written into it from the start, and switching it on is not itself a default. A borrower in dominion is still within its facility; it has simply lost control of the timing of its own cash.

The trigger is argued in the term sheet. A borrower with a seasonal trough, like the example, asks for a trigger it will not reach in a normal year, and a lender asks to see that year's lowest availability before agreeing. A trigger set just under the normal trough means dominion arrives every winter and is read as routine; one set well below it means dominion arrives only when something has gone wrong, and its arrival is news.

Once dominion is running, the lender's weekly reading changes. It watches collections against new invoices, because a business collecting more than it is invoicing is shrinking its base, and it watches the size and pattern of drawing requests. For the borrower, the practical cost is that cash is tightest exactly when it has least freedom to decide which supplier waits. A business that expects to reach the trigger is better served by negotiating a seasonal level in advance than by explaining a breach afterwards.