CFA Practice Question

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CFA Practice Question

Which one of the following statements regarding debt covenants is false?

A. The term "technical default" is used to describe a situation where the debtor has violated one or more covenants in a loan agreement but continues to make all payments on a timely basis.
B. Negative covenants (e.g., you are not permitted to pay out annual dividends in excess of 30% of net earnings) tend to play a less significant role in loan agreements than do affirmative covenants.
C. A creditor (lender) would prefer a higher fixed charge coverage ratio to a lower value.
D. Maintaining adequate insurance on assets serving as collateral in loan agreements is an example of an affirmative covenant.
Correct Answer: B

This statement is false. Negative covenants place direct restrictions on management actions and thus play a more significant role than affirmative covenants in loan agreements.

User Contributed Comments 4

User Comment
udhay what is fixed charge coverage ratio
nwarrior The firm's ratio in regards to being able to pay their fixed charges.
HolzGe1 fixed charge coverage ratio = (EBIT + lease payments) / (interest expense + lease payments)
khalifa92 all negative covenants play a bigger role
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