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12.4 Balance sheet classification — revolving debt agreements
Publication date: 31 May 2024
us Financial statement presentation guide
A line of credit or revolving debt arrangement is an agreement that provides the borrower with the ability to do all of the following:
- Borrow money at different points in time, up to a specified maximum amount
- Repay portions of previous borrowings
- Re-borrow under the same contract
Typically, borrowings under the arrangement are not required to be repaid until the termination date of the revolving debt arrangement, and classification of outstanding borrowings would be based on that date. See FSP 12.4.1 for details when the borrowings require the execution of a separate note.
Line of credit and revolving debt arrangements may include both amounts drawn by the borrower (a debt instrument) and a commitment by the lender to make additional amounts available to the borrower under predefined terms (a loan commitment).
12.4.1 Revolving debt requiring execution of a note
Revolving debt arrangements with a contractual term beyond one year may require the execution of a note for each borrowing under the arrangement with a separate maturity date that requires repayment sooner than the overall expiration date of the arrangement. When this is the case, the reporting entity should classify the debt based on when the individual note is required to be repaid, not based on the expiration date of the overall revolving credit arrangement. Therefore, if an individual note is required to be repaid within 12 months from the balance sheet date, the borrowing under that note should be classified as current, unless the conditions for noncurrent classification based on a refinancing are met. In other words, to achieve noncurrent classification, the reporting entity would need to have both the intent and ability to refinance the short-term note on a long-term basis. See FSP 12.3.4 for a discussion on the classification of short- term debt refinanced on a long-term basis.
Certain revolving debt arrangements may have a feature that gives the borrower the option to select between different types of borrowings with different interest rates. For example, a borrower may be able to choose between the following:
- A base-rate borrowing with an interest rate term that is consistent with the expiration date of the revolving debt arrangement
- A SOFR loan for which the reporting entity can elect an interest rate term of one, two, or three months
In these cases, it is important to understand when the borrowing is required to be repaid because that is what must be used to classify the borrowing. Certain agreements provide for the selection of an interest rate period without necessarily including any requirement to repay at the end of that interest rate period.
12.4.2 Revolving debt that specifies a borrowing base
Borrowings under a contractually short-term revolver may be renewed or extended through a long-term financing agreement. Sometimes these borrowings specify objective criteria, such as the attainment of specified operating results, levels of financial position, or other measures (e.g., inventory levels) that the reporting entity must maintain or achieve in the future to continue borrowing. This is commonly referred to as a borrowing base.
In such cases, consistent with the guidance in ASC 470-10-45-19, the reporting entity should classify the outstanding short-term borrowings as noncurrent if it is reasonable to expect that the specified criteria will be met, such that long-term borrowings (or successive short-term borrowings for an uninterrupted period) will be available to refinance the short-term debt on a long-term basis. The reporting entity must also demonstrate the intent and ability to refinance, as discussed in FSP 12.3.4. Achieving noncurrent classification in this scenario requires a high degree of assurance.
Borrowings under contractually long-term revolving debt agreements may also reference a borrowing base. We believe there are two methods for determining how the borrowing base impacts the classification of debt as current or noncurrent.
- Treat the borrowing base as a debt covenant and assess it with all other debt covenants under the model discussed in FSP 12.3.3.
- Classify the outstanding borrowings as noncurrent only if it is reasonable to expect that the specified criteria will be met over the 12 months following the balance sheet date. This method is based on the ASC Master Glossary definition of a current liability.
Selection of an approach represents an accounting policy decision that should be applied consistently.
Example FSP 12-6 demonstrates the classification of a revolving credit facility that is subject to a working capital requirement.
EXAMPLE FSP 12-6
Classification of a revolver subject to a working capital requirement
Classification of a revolver subject to a working capital requirement
FSP Corp has $10 million outstanding on its short-term revolving credit facility at December 31, 20X1. As long as FSP Corp complies with the provisions of the credit facility, which has a specified borrowing base, the amounts borrowed are permitted to be continuously renewed at its option for successive 120-day periods through December 31, 20X4. The revolver's borrowing base is calculated using a multiple of working capital. The borrowing base is calculated quarterly. Any outstanding amount that exceeds the calculated borrowing base is not permitted to be renewed, but rather is due and payable at the end of its 120-day term.
FSP Corp's outstanding borrowings did not exceed the borrowing base calculated on December 31, 20X1. It expects that the lowest borrowing base amount for the upcoming 12 months following the balance sheet date will be $6 million.
There are no events of default or covenants breached as of December 31, 20X1 and all other terms within the agreement are usual and customary.
How should FSP Corp classify the outstanding short-term borrowings in the December 31, 20X1 financial statements? What if the borrowings under the revolver were contractually long-term?
Analysis
Since FSP Corp's outstanding borrowings did not exceed the borrowing base at December 31, 20X1 and it expects that the lowest borrowing base will be $6 million through January 1, 20X3, $6 million should be classified as noncurrent, assuming all of the other requirements for refinancing short-term debt on a long-term basis are met. As management expects the borrowing base to be as low as $6 million in the coming year, the excess of borrowings of $4 million ($10 million outstanding less the $6 million recorded as noncurrent) should be classified as current.
In contrast, if the borrowings under the credit facility were contractually long-term, we believe FSP Corp could apply either of the two models for determining the current and noncurrent amounts. Under the first method, all of the debt would be noncurrent because FSP Corp is not in violation of the "covenant" (i.e., it has a sufficient borrowing base at the balance sheet date). Under the second method, $6 million of the debt would be classified as noncurrent and $4 million would be classified as current based on FSP Corp's estimate of the borrowing base for the following year.
12.4.3 Revolving debt - lockbox arrangements and SACs
As discussed in ASC 470-10-45-5, borrowings that are legally long-term under a revolving credit agreement should be classified as current if they include a requirement to maintain a lockbox arrangement (or a sweep feature or other lender arrangement), whereby remittances from the borrower's customers are used to reduce the revolving debt outstanding. A revolving credit arrangement with a required lockbox is inherently short-term based on the definition of a current liability because a lockbox requires that the debt be serviced with working capital.
The only way this type of arrangement could be considered noncurrent is if the revolving credit agreement permits either (1) continuous replacement with successive short-term borrowings for more than a year or (2) conversion to term loans extending beyond a year at the reporting entity's option and the borrower intends to utilize those provisions and meets the criteria for refinancing the short-term debt on a long-term basis (as discussed in FSP 12.3.4). However, if there is a SAC in the agreement, the agreement will not meet the requirements to refinance the short-term obligation on a long-term basis and the arrangement should be classified as current. In contrast, as discussed in ASC 470-10-45-6, borrowings outstanding under a long-term revolving credit agreement that includes a requirement to maintain a "springing" lockbox (an agreement whereby remittances from the borrower's customers are not forwarded to the lender to reduce the debt outstanding until and unless an event of default occurs) are classified as noncurrent as long as no event of default occurred prior to the balance sheet date. A SAC in such agreement would be evaluated using the guidance in FSP 12.3.2.2.
12.4.4 Revolving debt related to long-term projects
ASC 470-10-S99-3, Classification of Short-term Obligations—Debt Related to Long-Term Projects, provides guidance for public companies that have a revolving cover loan associated with a long-term construction project.
Excerpt from ASC 470-10-S99-3
Facts: Companies engaging in significant long-term construction programs frequently arrange for revolving cover loans which extend until the completion of long-term construction projects. Such revolving cover loans are typically arranged with substantial financial institutions and typically have the following characteristics:
- A firm long-term mortgage commitment is obtained for each project.
- Interest rates and terms are in line with the company's normal borrowing arrangements.
- Amounts are equal to the expected full mortgage amount of all projects.
- The company may draw down funds at its option up to the maximum amount of the agreement.
- The company uses short-term interim construction financing (commercial paper, bank loans, etc.) against the revolving cover loan. Such indebtedness is rolled over or drawn down on the revolving cover loan at the company's option. The company typically has regular bank lines of credit, but these generally are not legally enforceable.
When these conditions exist—representing a firm commitment throughout the construction program for permanent mortgage financing, and there are no contingencies other than completing construction—the borrowing may be classified as noncurrent with appropriate disclosure.
12.4.5 Increasing rate debt
Revolving debt agreements may have a maturity date that can be extended at the option of the borrower at each maturity date until final maturity. In such cases, the interest rate on the note may increase a specified amount each time the note is renewed. These types of instruments are called increasing rate debt instruments. ASC 470-10-45-7 indicates that classification of the debt as current or noncurrent should reflect the borrower's anticipated source of repayment (e.g., current assets, new short-term debt, or long-term refinancing agreement). Guidance in ASC 470-10-35 requires the borrower to estimate the life of the debt to calculate one blended effective interest rate, but the classification need not be consistent with the time frame used to determine the blended effective interest rate.
PwC. All rights reserved. PwC refers to the US member firm or one of its subsidiaries or affiliates, and may sometimes refer to the PwC network. Each member firm is a separate legal entity. Please see www.pwc.com/structure for further details. This content is for general information purposes only, and should not be used as a substitute for consultation with professional advisors.
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