What it means
When a company borrows against assets, the lender wants the security to be worth comfortably more than the loan. The topping up clause turns that wish into a rule by setting a minimum cover level and stating what must happen if the level is breached.
Cover is usually expressed as a percentage of the loan, so 125% cover means the pledged assets must be worth at least $1.25 for every $1.00 borrowed. The value is tested at agreed intervals, often monthly or quarterly, using methods set out in the contract such as market prices, broker valuations or independent appraisals.
If the test fails, the borrower is normally given a short window, commonly a few business days, to deliver extra collateral or to repay part of the loan. The acceptable ways to top up are listed in the contract and usually include cash, government securities or additional property.
The clause is common in ship finance, margin lending, property development loans and repurchase agreements. It is closely related to a margin call, although in a term loan it often sits among the financial covenants (promises the borrower makes about its financial health) and can be more detailed.
For the borrower, the real danger is liquidity. Asset values tend to fall at times when cash is already tight, so a company can face a sudden demand for funds just when it is least able to meet it.
Careful finance teams model how far values could fall before the clause is triggered. The same words appear in other settings, such as topping up an insurance policy or a pension pot, but the collateral meaning is the one that matters in lending documents.
Always check how value is defined, when testing happens and how long the cure period (the time allowed to fix a breach) lasts, because small differences in wording change the outcome a great deal.
In practice
Real-world examples.
Example
A property developer borrows $12,000,000 against a half-finished apartment block. When a local downturn cuts the independent valuation, the lender invokes the clause and the developer pledges an adjoining plot of land to restore the agreed cover.
Example
An investment firm borrows against a portfolio of listed shares to fund an acquisition. A market fall pushes the portfolio below the required cover, and the firm deposits $400,000 in cash with the lender within the three days allowed.
Example
A mid-sized airline finances a leased aircraft through a bank facility with a topping up clause linked to aircraft appraisals. Its treasurer keeps an undrawn credit line in reserve so that a drop in appraised values never forces an emergency sale of other assets.
Formula
Calculation
Top-up required = (Loan outstanding x Required cover %) - Current collateral value
Suppose a shipping company has a $5,000,000 loan secured on a vessel, and the loan agreement requires 125% cover. The required collateral value is 5,000,000 x 1.25 = $6,250,000. After a fall in ship values the vessel is appraised at $5,500,000, so actual cover is 5,500,000 / 5,000,000 = 110%, which is below the 125% requirement. Top-up required = 6,250,000 - 5,500,000 = $750,000, which the company can meet by posting cash or by repaying $600,000 of the loan (since 5,500,000 / 1.25 = $4,400,000 is the largest loan the vessel now supports).Case study
Seen in the real world.
Harbourline Freight is an illustrative, fictional shipping group that borrowed $20,000,000 against two bulk carriers. The loan agreement carried a topping up clause requiring collateral value of at least 130% of the outstanding balance, tested every quarter by an independent shipbroker.
In a weak freight market the carriers were revalued downwards, and cover fell to 118%. The shortfall against the 130% requirement was $2,400,000, and the lender gave Harbourline ten business days to cure it.
The finance director had already stress tested the covenant and held cash for exactly this case, so the group paid the shortfall without selling a vessel. The illustrative lesson is that the clause is a liquidity event to be planned for, not a surprise to be discovered.
Watch out
Common mistakes.
- Treating the clause as a distant legal technicality and never modelling how far asset values must fall before it is triggered.
- Assuming that any asset will be accepted as a top-up, when the contract usually limits it to named types of collateral at agreed discounts.
- Ignoring the cure period, and so missing the deadline to post extra security, which can turn a manageable shortfall into a default.
Questions
People also ask.
Is a topping up clause the same as a margin call?
They work in a similar way, but a margin call is usually based on daily market prices, while a topping up clause in a term loan often relies on periodic valuations and a longer cure period.
Can the borrower repay part of the loan instead of posting collateral?
Many agreements allow this, since reducing the loan restores the required cover just as effectively as adding security.
Who bears the cost of the valuation?
The contract decides, but it is commonly the borrower, which is another reason to read the clause before signing.
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