Net Asset Value (“NAV”) credit facilities are lending arrangements underwritten on the borrower’s portfolio of investments, where the amount available for borrowing is based on the value of such underlying portfolio investments. The borrowing base may be calculated based on the net value of the borrower—its total assets minus total liabilities—or it may comprise a selected subset of eligible assets. The determination of the borrowing base depends on the borrower’s reported value of its investments, which may originate from the sponsor or borrower’s reporting, a third-party appraiser, the third-party sponsor issuing the investment, or a purchase or market value (in the case of publicly available marks). Because the reported value may come from the borrower and not an impartial source, lenders may require a periodic third-party valuation or the right to challenge the borrower’s valuation by obtaining a third-party appraisal of some or all relevant investments included in the borrowing base. This Legal Update explores the scope and mechanics of asset valuation challenges, focusing on what lenders and borrowers need to consider when framing and negotiating provisions for valuation challenges in credit facility documentation.

Background

NAV facilities are credit facilities underwritten by reference to the borrower’s investments, such as equity interests in portfolio or holding companies, securities, and other investment assets. For this reason, NAV facilities typically have financial covenants, mandatory prepayments, and events of default tied to the valuation of these assets.

Effective underwriting of NAV facilities requires that asset valuations of investments (and often the assets that underlie those investments) are both current and accurate. To this end, borrowers are required to provide audited annual financial statements along with quarterly financial statements and compliance certificates, which certify the net asset value, loan-to-value ratios, and borrowing base calculations. Additionally, NAV facilities may mandate additional monthly or quarterly reporting requirements...