Transaction Type: Specialized field exams on several borrowers in the oil and gas industry. ECC is often engaged by lending institutions to perform exams in this specialized industry. Our clients provide borrowers with revolving lines of credit governed by a borrowing base that includes cash, accounts receivable, and inventory.
Significant Finding: Based on review, testing, and discussion with personnel at each borrower, it is determined that annual fuel contracts exist with municipal governments. It is common in the oil and gas industry for municipalities to require energy suppliers to provide a supplier performance bond. The performance bond ensures that a bonding company will step in and provide the contracted fuel to the municipality should the energy company default under the contractual agreement. The bank’s position under the bonded contract is inferior to the bonding company until successful completion of the contract. Should the energy company default and the bonding company exercise its rights, the bank’s position as primary assignee of the contract funds would be voided. This issue has been identified during several field exams in the oil and gas industry.
Impact on Transaction: Based on this finding, the bank implemented a new borrowing base reserve for accounts receivable generated under bonded contracts. The reserve was based on the lesser of the accounts receivable outstanding or the bonded contract amount.
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