Limitation on Transactions With Affiliates | Bondfish
Limitation on transactions with affiliates is a bond covenant that requires deals between the issuer (or its restricted subsidiaries) and its affiliates — owners, sponsors, sister companies — to be on arm’s-length terms, so value is not quietly moved away from the company backing the bonds.
What it means
Found mainly in high-yield bond indentures, this covenant targets a specific danger: a controlling shareholder or private-equity sponsor making the company overpay for services, sell assets cheaply to a related party, or pay inflated management fees. Any of these drains cash and assets that would otherwise support bondholders.
The covenant typically requires that affiliate transactions above a size threshold be on terms no less favorable than the company could get from an unrelated third party. Larger deals often need approval by disinterested directors, and the largest may require a fairness opinion from an independent financial adviser. Ordinary-course items — employment agreements, transactions among restricted subsidiaries, small deals — are usually carved out.
Why it matters for bond investors
Alongside limits on debt, liens and restricted payments, this covenant is part of the protective fence around your claim as a creditor. A weak affiliate-transactions clause — wide carve-outs, high thresholds, no fairness-opinion requirement — makes it easier for insiders to extract value ahead of bondholders, which raises credit risk without any change in the company’s headline numbers. Reading covenant summaries before buying a corporate bond, especially a high-yield one, is time well spent.
Related terms
- Restricted subsidiaries
- Unrestricted subsidiaries
- High-yield bonds
- Corporate bond
- Credit risk
- Default
This definition is for general information only and is not investment advice. Bond investing involves risk, including possible loss of principal.