The borrowing base is the amount of money a lender will loan to a company based on the value of the collateral the company pledges. The borrowing base is usually determined by a method called margining, in which the lender determines a discount factor that is multiplied by the value of the collateral. The result is the amount that will be loaned to the company.
There are various assets that can be used as collateral, including accounts receivable, inventory and equipment. For example, if a company goes to a lender to borrow money, the lender will assess the company’s strengths and weaknesses, and evaluate the borrower’s risk. Based on the risk that the lending company feels is associated with the loan to the company, a discount factor of 85% may be determined.
With a borrowing base, lenders feel more comfortable making a loan, since it is against specific assets. The assets are typically not used to back other loans, or the lenders will have the first claim.
The borrowing base can be adjusted downward, protecting the lender. If the value of the collateral falls, the credit limit also declines. Should the collateral increase, the borrowing base will also rise, up to a predetermined limit.
The borrower must provide the lender with certain information to determine the borrowing base. This includes information on sales and collections, along with inventory. Middle-market and large asset-based loans generally require the borrower to give the lender a certificate with detailed calculations, such as which receivables are eligible, if the borrowing base is determined this way. The certificate is delivered periodically, which is spelled out in the credit agreement.
The lenders may also conduct due diligence. This involves checking the borrower’s business and having an appraiser value the collateral that is used in calculating the borrowing base.
Borrowing base is an accounting metric used by financial institutions to estimate the available collateral on a borrower’s assets in order to evaluate the size of the credit that may be extended Typically, the calculation of borrowing base is used for revolving loans, and the borrowing base determines the maximum credit line available to the borrower. Occasionally, borrowing base is also used to determine the maximum size of term loans. Depending on the contractual terms of the loan, the assets included in the calculation of the borrowing base may be used as collateral for the loan.
The borrowing base is frequently used for asset financing offered by banks to corporations and small businesses. In this case, the borrowing base of a business is typically calculated on a corporation’s accounts receivable and of its inventory. Work in process is excluded. Also excluded are the accounts receivable from bankrupt customers[ and accounts receivable that are old, i.e. between 90-120 days.
The borrowing base of financial institutions who themselves apply for asset-based revolving loans is calculated by summing up all tangible working assets (typically cash, bonds, stocks, etc.) and subtracting from it all senior debt, i.e. all other accumulated debt that does not rank behind other debt for repayment in the event of a liquidation.
The borrowing base of government organizations is calculated similar to that of corporations. However, in many cases there are government restrictions on pledges of some or all of the accounts receivable. Such accounts receivable are excluded from the borrowing base.
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