Often, we are asked to test an intercompany loan to see whether the interest rate is at arm’s length. However, at times we are asked to help with the setting up of an intercompany loan. Where testing is focussed on finding comparables in which the terms and conditions are a given, setting an intercompany loan requires some more attention. Setting enables us to influence all aspects of a loan and requires a specific financial analysis of the borrower to determine an at arm’s length intercompany loan.
For an intra-group loan transaction, an arm’s length analysis would include, amongst others, the following particular factors:
- Borrower’s and lender’s perspective, including:
- Purpose of the transaction;
- Terms and conditions;
- Credit ratings;
- Options realistically available;
- Country specific issues and regulations;
- Debt capacity analysis; and
- Determining an at arm’s length interest rate.
One of the most important aspects is looking carefully at the financials of the borrowing party in order to determine what the effect of the intercompany loan will be and whether a third party would grant a loan of a certain amount to the borrower. Industry related data and bank covenants can be used to determine the borrower’s debt capacity. The following ratios may be considered:
- Debt to equity ratio;
- Debt over EBITDA; and
- EBITA over interest expense.
By analysing all the above-mentioned aspects of an intercompany loan, we can help you with determining what the terms and conditions of an intercompany loan should be. So, if your subsidiary is in need of funding or if you have any other questions on this subject, please feel free to contact us.