BORROWING BASE Meaning and
Definition
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Borrowing base refers to the framework that financial institutions use to calculate the amount of funds they are willing to lend to a business or borrower, based on the value of the borrower's assets. It is commonly employed in the context of asset-based or collateralized financing arrangements.
The borrowing base is determined by assessing the value of a variety of assets, such as accounts receivable, inventory, machinery, or real estate, that the borrower pledges as collateral. The financial institution typically specifies a percentage, called an advance rate, which indicates the proportion of the asset's value that can be considered as eligible collateral. This advance rate is determined by considering factors like the marketability, quality, and risk associated with the assets.
The borrowing base is calculated by multiplying the total value of eligible collateral by the advance rate. For example, if a borrower has $1 million worth of eligible assets and the financial institution has established an advance rate of 80%, the borrowing base would be $800,000. This amount represents the maximum loan amount that can be availed by the borrower. As the value of the collateral changes, the borrowing base can be adjusted accordingly.
The borrowing base serves as a risk management tool for lenders, as it helps ensure that the value of the collateral is sufficient to cover the loan amount. By periodically reassessing the borrowing base, lenders can manage their exposure and make adjustments to loan terms or amounts as needed. Overall, the borrowing base plays a crucial role in asset-based lending by providing a transparent and objective mechanism for determining the amount of funds that can be borrowed against specific assets.
Etymology of BORROWING BASE
The term "borrowing base" is derived from the word "borrow" and the concept of a "base" in accounting and finance.
The word "borrow" originates from Middle English and Old English words "borwen" and "borgan" respectively, which means to obtain something temporarily. In financial terms, borrowing refers to obtaining funds or assets from a lender with the understanding of repayment.
The term "base" in finance generally refers to a benchmark or reference point against which other measurements or calculations are compared. In the context of borrowing, a "base" typically represents a predetermined value or percentage used to calculate the amount of funds a borrower can draw from a line of credit or loan.
So, when combined, "borrowing base" refers to the amount of funds or assets that a borrower can access based on a predetermined formula or calculation, typically taking into account certain assets as collateral.
