What Is a Borrowing Base?
Let me explain what a borrowing base is: it's the total loan amount a lender is willing to give to a company, based directly on the value of the collateral you've pledged. Lenders use a method called margining, where they apply a discount rate to the asset values to reduce risks and set a solid credit limit for your business.
How Borrowing Bases Work
You can use various assets as collateral, such as accounts receivable, inventory, and equipment. When you approach a lender for a loan, they evaluate your company's strengths and weaknesses. Based on the risk they see in lending to you, they set a discount factor—let's say 85%. If you pledge $100,000 in collateral, they'll loan you 85% of that, which comes to $85,000. For oil and gas companies, borrowing might be against field production or proven orders, with the lender getting a monthly quota in return.
Reasons Lenders Rely on Borrowing Bases
Lenders prefer loans tied to borrowing bases because they're secured against specific assets. You should know that the borrowing base can be adjusted downward to protect the lender if the collateral value drops, reducing the credit limit accordingly. On the other hand, if the collateral value increases, the borrowing base can go up to a predefined limit.
Detailed Mechanics of Borrowing Bases
As the borrower, you have to provide the lender with key information like data on sales, collections, and inventory to calculate the borrowing base. For larger asset-based loans, you'll often need to submit regular certificates detailing your operations—for instance, listing eligible receivables if that's the basis for the borrowing base. Lenders may also conduct ongoing investigations, sending appraisers to evaluate collateral and check for any major changes in value.
Real-World Example of Borrowing Base
Take Cabot Oil & Gas Corporation: as of March 31, 2016, they had no borrowings under their revolving credit facility. Their borrowing base gets redetermined every April 1, but the lender can request it anytime if Cabot buys or sells oil and gas properties. On April 19, 2016, it was reduced from $3.4 billion to $3.2 billion.
The Bottom Line
Understand that a borrowing base is a key financial tool setting the max loan amount based on your collateral's value. Lenders apply margining to create a discount factor, so loans are typically a percentage of the pledged assets. It adjusts with collateral changes, protecting lenders and giving you some flexibility. Accurate reporting and regular evaluations keep everything in check, helping you secure financing while managing risks.
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