What is an example of a negative covenant?

A negative covenant is a type of restriction placed on a borrower, typically found in loan agreements, that prohibits certain actions that could jeopardize the lender's position. The correct answer highlights a clause that prevents a borrower from pledging assets in a way that might diminish the security that lenders have. By prohibiting such actions, lenders protect their interests, ensuring that valuable collateral remains available to cover any potential defaults.

Other options reflect different types of contractual obligations or commitments. Maintaining liquidity levels is a form of affirmative (positive) covenant where the borrower is required to meet certain financial ratios. A commitment to pay off all debts on time is also an affirmative covenant, indicating a borrower's obligation rather than a restriction. Similarly, guaranteeing profitability refers to predictions of financial performance rather than prohibitions. Hence, the focus of the correct answer centers on restrictions designed to safeguard lenders' interests, which is the essence of negative covenants.