Evaluating Asset Based Borrowing Base Formulas in Growth Financing
Evaluating borrowing base availability demands stress testing collateral eligibility carve-outs against dilution and liquidation haircuts.
Work in Process Collateral
Meaning
Manufacturing assets currently undergoing transformation from raw materials into finished goods present specific valuation challenges for secured lenders. Assessing work in process collateral requires an understanding of how much value is added at each stage of the factory floor. This type of asset is generally less liquid than raw steel or a completed machine.
Production Value
Calculating the worth of a half finished item involves adding the cost of the raw material to the direct labor and overhead spent so far. Lenders typically assign a lower advance rate to work in process collateral because the item cannot be sold easily in its current state. A partially assembled car has almost no value to a buyer who needs a working vehicle.
Specialised components may even require additional testing before they can be safely integrated into a final assembly, adding further time and expense to the recovery process.
Completion Cost
Estimating the money required to turn the current stock into a saleable product is a requirement for any appraisal. If the cost to finish the work in process collateral exceeds the market price of the final good, the collateral value is zero. This calculation is updated during every field exam to ensure the lender is not over collateralized by useless parts.
Realization Risk
Liquidation of a factory often results in the abandonment of any items still on the assembly line. Because work in process collateral is difficult to transport and sell, it is frequently excluded from the borrowing base entirely. Only in industries with very short production cycles or high scrap value is this asset class given a large weight in the loan calculation.