What is a Prime Underwriting Facility
A prime underwriting facility is a type of revolving underwriting facility, typically a short-term note, in which the lender’s yield is pegged to the bank prime rate.
Breaking Down Prime Underwriting Facility
A prime underwriting facility is most often a short-term note with a maturity of one to three years and is an example of a revolving underwriting facility (RUF), with the yield in this case tied to the prime rate.
The prime rate is the interest rate commercial banks make available for their best customers with excellent credit ratings. Many of a bank's most creditworthy customers are large corporations. The prime interest rate is largely determined by the federal funds rate, which is the overnight rate banks use for lending to each other.
The prime rate has been at historical lows in recent years. The prime rate in 2018 has been rising toward 5% but is nowhere near the historical highs seen in past decades. For example, in 1984 the prime rate was 12.5%. The volatility seen in the prime rate during the 1970s was especially troublesome for the economy, as sudden large movements in interest rates will always make business planning and borrowing very difficult. For instance, in 1972 the prime rate was just 5%, which means in the just 12 years until 1984 it rose 7.5%.
Short-term prime loans offer better rates than most revolving credit loans and are good solutions for corporations intending to pay them off quickly under flexible payoff terms.
More About Revolving Loan Facilities
Revolving loan facilities allow a borrower to issue, as required, short-term paper for periods of less than one year. In the event the borrower is unable to sell the paper, a group of underwriting banks will buy it at previously agreed-upon rates, or provide funds through other lending arrangements.
Businesses need working capital to fund their fixed and variable costs. A revolving loan facility provides them the flexibility of accessing additional capital when, and if, needed. For example, businesses project annual revenue and expense forecasts based on likely market conditions, but when those conditions change suddenly during an unanticipated recession, gaining access to these revolving loan funds provides the company a cushion while reevaluating the changed circumstances. Drawing against the loan brings down the available balance, whereas making payments on the debt brings the balance up.
The lender will most often examine the company’s income statement before issuing a loan. As long as the company is in excellent financial health, with a good credit score, they are likely to be approved.