What covenants are associated with high-yield debt and bank debt?

• A. HY uses incurrence covenants; bank uses maintenance covenants.
• B. HY uses maintenance covenants; bank uses incurrence covenants.
• C. Both use no covenants.
• D. Both use only incurrence covenants.

Answer: (A)

Covenant structure differs between high-yield debt and bank debt. High-yield debt typically uses incurrence covenants, which restrict actions only when the borrower takes a specific step (like taking on more debt, issuing dividends, or making large capex) and only if financial tests are met at that moment. Bank debt, on the other hand, relies on maintenance covenants that require the borrower to continuously satisfy certain financial metrics (leverage ratios, interest coverage, etc.). If those metrics deteriorate, lenders have protection and can demand remedies or accelerate repayment. This is why the correct idea is that high-yield debt uses incurrence covenants and bank debt uses maintenance covenants. The other patterns don’t fit the common market practice: maintenance covenants aren’t typical for high-yield debt, and incurrence-only covenants aren’t the standard for bank facilities.