NAV Loans: 10 Questions CFOs and CCOs Should Ask Before Signing

NAV Loans: 10 Questions CFOs and CCOs Should Ask Before Signing

A NAV loan is often first raised by a deal team with a specific problem to solve: a portfolio company needs capital for an add-on acquisition, a continuation vehicle needs bridging, or a fund is close to fully drawn. By the time the CFO or chief compliance officer (CCO) hears about it, the conversation can already be well advanced.

That is too late. The finance and compliance functions should be involved from the outset, because many of the decisions that matter most, on structure, disclosure and governance, are hard to change once terms are agreed.

These are the ten questions we think every CFO and CCO should ask before a fund takes on a NAV loan.

1. Why are we borrowing, and is a NAV loan the right tool?

Start with the business case. The most widely accepted uses of a NAV loan are follow-on investment and add-on acquisitions in existing portfolio companies, which together account for the majority of facilities. Supporting continuation vehicles and bridging a single asset through a difficult period are also common.

Using NAV loan proceeds to fund distributions to LPs is a small minority of the market, around 5% of use cases, and it is the use that attracts the most scrutiny from investors and regulators. If that is the purpose, expect to explain it in detail.

It is also worth asking what the alternatives are. Junior capital at portfolio company level, holdco PIK notes or new equity may all be options, but a fund-level NAV facility is often materially cheaper and quicker to put in place. CFOs and CCOs can add real value by raising that option at investment committee when a deal team hits a funding roadblock.

2. Is the fund at the right stage of its life?

For a typical closed-end fund, a pure NAV facility usually makes most sense once the fund is around half deployed, often in years four to six, when there is a mature portfolio to lend against and too little unfunded capital for a subscription line to be useful.

Earlier in a fund's life, a hybrid facility that combines a subscription line with NAV support may be a better fit. Later on, as assets are sold, the remaining portfolio becomes more concentrated, which affects how much can be borrowed and on what terms.

Evergreen and open-ended funds are different. They may consider a NAV facility from the start, particularly if an existing portfolio is contributed at launch.

3. What does our LPA say, and what does it not say?

Many older limited partnership agreements are silent on NAV facilities because the product was not common when they were drafted. They often contain detailed provisions on subscription lines but nothing equivalent for borrowing against the portfolio.

Check the LPA for borrowing limits, restrictions on pledging assets and any requirement for LP or LPAC consent. Review side letters too, as individual investors may have negotiated specific restrictions.

Where the LPA is silent, best practice is to seek LPAC approval before signing. Where it expressly permits a NAV facility, approval may not be required, but disclosure still is.

4. How will we explain this to our LPs and LPAC?

The Institutional Limited Partners Association (ILPA) has published guidance calling for clear disclosure of NAV facilities. At a minimum, LPs should understand:

• That the facility exists and why it has been put in place.

• How the proceeds will be used.

• The size of the facility, the LTV and the key covenants.

• The benefits to the fund and its investors.

• The alternatives the GP considered.

Experienced lenders encourage borrowers to go to their LPAC proactively, even where it is not strictly required. Advisory committees generally respond well to a clear explanation of a low risk structure and how it benefits LPs. Difficulties tend to arise when an investor relations team has promised during fundraising never to use a NAV loan, so it is worth addressing NAV facilities explicitly in the next fund's documents.

LPs who feel left out of the loop will remember it when the next fund or continuation vehicle comes round.

5. Which structure is being proposed?

Most NAV loans today are made to a newly formed special purpose vehicle (SPV) that sits below the main fund and holds the assets in the borrowing base. This avoids historical liabilities at fund level and keeps the facility separate from any existing subscription line, which usually saves time and cost.

Within that, there are two broad approaches:

• Full equity pledge, where the lender takes security over the shares or interests in the borrower or the underlying investments.

• Recourse-light, where the lender takes a pledge of the economic rights to distributions, control over the account they are paid into, and payment direction letters from portfolio companies, but no equity pledge and no voting rights.

From an LP perspective the two are broadly neutral, since in both cases the lender is first in line for the economic rights. Many GPs and LPs prefer recourse-light structures because they are simpler, cheaper and leave the manager in control.

6. What happens if things go wrong?

Understand exactly what the lender can do on a covenant breach. In most recourse-light deals with a sensible LTV and a diversified portfolio, the lender's remedy is to sweep cash from distributions until the loan is repaid or back within its covenants. It is not to force a sale of portfolio companies at the worst point in the cycle.

Ask specifically about:

• Cash sweeps: whether any apply from day one, and how they step up as LTV rises or diversification falls.

• Concentration limits: many lenders cap any single asset at around 30% to 35% of the borrowing base.

• Eligibility criteria: an asset marked below roughly half of cost, or one that suffers a debt acceleration or insolvency, may fall out of the borrowing base, which can push LTV up quickly.

Model the downside. A fall in valuations that tips the facility over its LTV limit could reduce or delay distributions to investors, which in turn affects fund performance.

7. How will the assets be valued?

Valuation sits at the heart of every NAV loan, because it drives the borrowing base and the LTV covenant. Most lenders will require the right to commission an independent valuation, and that valuation may be used as the mark for the borrowing base going forward.

CFOs should understand when and how often the lender can call for an independent valuation, who pays, and what happens if it differs from the manager's own marks. Valuation of illiquid assets is also an area of sustained regulatory focus, so the process should be robust and well documented regardless.

8. How does this interact with our other debt?

Look at the fund structure as a whole. A NAV facility can interact with:

• An existing subscription line or hybrid facility.

• Leverage at portfolio company level.

• Any GP or management company facility, which may have covenants affected by borrowing at fund level.

Identifying these overlaps early can avoid intercreditor negotiations late in the process, which add cost and delay without improving the outcome for anyone.

9. Are there any conflicts of interest?

Check whether there is any relationship between the GP, its affiliates and the lender, and make sure the terms are at arm's length. Consider whether the facility benefits some investors or vehicles more than others, for example where a NAV loan supports a continuation vehicle with a different investor base from the main fund.

Any conflicts should be identified, managed and disclosed to LPs. Regulators expect to see a clear record of when and how investors were told.

10. What will ongoing reporting and monitoring involve?

The reporting burden is usually lighter than people expect. Most lenders ask for the information the fund already gives its LPs: quarterly reports, annual accounts and a quarterly portfolio update aligned with the valuation cycle.

The internal work is in monitoring. Compliance should test covenant compliance at least quarterly or semi-annually, track LTV against the borrowing base, and keep LP disclosures up to date, including when the facility is refinanced or repaid. It is also sensible to involve the fund's auditors early so that the facility is properly reflected in the financial statements and notes.

How long does the process take?

Most NAV loans close in four to eight weeks from mandate. Faster closings are possible, particularly with an experienced borrower and a straightforward portfolio, but involving finance, compliance, legal counsel and auditors from the start is the best way to keep to a timetable without cutting corners.

Frequently asked questions

When should a CFO or CCO get involved in a NAV loan?

At the very start. Decisions on structure, LP disclosure and LPAC approval are much easier to get right before terms are agreed than after.

Does a fund need LPAC approval for a NAV loan?

It depends on the LPA. Where the LPA is silent on NAV facilities, best practice is to seek LPAC approval. Where it expressly permits them, approval may not be needed, but the facility should still be disclosed to LPs.

What should be disclosed to LPs about a NAV loan?

The existence of the facility, its purpose and use of proceeds, its size, LTV and covenants, the benefits to the fund and the alternatives considered, followed by ongoing updates on performance and any refinancing.

What is a recourse-light NAV loan?

A structure in which the lender takes security over the economic rights to distributions and the account they are paid into, but not an equity pledge or voting control over portfolio companies. On a breach, the lender sweeps cash rather than forcing asset sales.

How much extra reporting does a NAV loan create?

Usually little. Lenders typically rely on the reports the fund already provides to LPs, plus a quarterly portfolio update aligned with the valuation cycle.