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Simple English definitions for legal terms
negative-pledge clause
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A quick definition of negative-pledge clause:
A negative-pledge clause is a rule that says if someone borrows money without giving something valuable as security, they cannot give anything valuable as security to someone else without asking the first lender first. It can also be a rule in a contract that says a company cannot use its things as security if it will make the people who lent it money less safe.
A more thorough explanation:
A negative-pledge clause is a provision in a loan agreement or bond indenture that restricts the borrower or issuer from pledging any assets as collateral to another lender without the consent of the first lender or bondholders.
Suppose a company borrows money from Bank A without providing any collateral. The loan agreement may include a negative-pledge clause that prohibits the company from pledging any assets as collateral to another lender without Bank A's permission. This clause protects Bank A's interest in the loan and ensures that it has priority over any other lenders.
A bond indenture may also include a negative-pledge clause that restricts the issuer from pledging any assets as collateral to another lender if it would result in less security for the bondholders. For instance, if a company issues bonds and pledges its assets as collateral to another lender, the bondholders may have less security in case of default. The negative-pledge clause ensures that the issuer cannot take any action that would jeopardize the bondholders' interests.
These examples illustrate how a negative-pledge clause protects the interests of lenders and bondholders by restricting the borrower or issuer from pledging any assets as collateral to other parties without their consent. This clause ensures that the lender or bondholders have priority over other creditors and that their interests are safeguarded.