Everything about Asset-based Lending totally explained
In the simplest meaning,
asset-based lending is any kind of lending secured by an asset. This means, if the
loan isn't repaid, the asset is taken. In this sense, a
mortgage is an example of an asset-backed loan. More commonly however, the phrase is used to describe lending to business and large
corporations using assets not normally used in other loans. Typically, these loans are tied to inventory, accounts receivable, machinery and equipment, but they can also include exotic things like the value of pharmacy script files, a
trademark, or whole assets of
intellectual property. For example,
Midway Games took out a line of
credit secured by its
Mortal Kombat franchise; if it fails to repay, the
bank then owns the Mortal Kombat franchise and can sell the rights to it.
This type of lending is usually done when the normal routes of raising funds, such as the
capital markets (selling bonds to investors) or normal unsecured or mortgage secured bank lending isn't possible. This is usually because the company is in dire financial status. Thus, asset based lending can be compared to
subprime lending. It is usually accompanied by high
interest rates, and can be very lucrative for the parent company. For example, the bank
Wells Fargo made more money from asset-based lending business then it did the rest of its corporate business (both lending and fee based services).
In fact, many
financial services CEOs argue that normal lending to corporations can no longer be profitable in and of itself, because the interest rates involved are too low. This is because for most of the second half of the twentieth century, it has been possible for corporations to not borrow from banks but instead borrow from individual investors in the form of
bonds. Thus, competition has made rates so low that many feel they don't adequately reflect the risk (see:
risk-based pricing). Most financial services companies now only lend as part of a package of services, or do asset based lending or other more lucrative businesses.
Asset-based lenders are known for taking out
tombstone ads in much the same way as
investment banks.
Features of asset-based loans
An asset based business line of credit is usually designed for the same purpose as a normal business line of credit - to allow the company to bridge itself between the timing of cashflows of payments it receives and expenses. The primary timing issue involves what are known as accounts receivables - the delay between selling something to a customer and receiving payment for it. A non asset based line of credit will have a credit limit set on account opening by the accounts receivables size, to ensure that it's used for the correct purpose. An asset based line of credit however, will generally have a revolving credit limit that fluctuates based on the actual accounts receivables balances that the company has on an ongoing basis. This requires the lender to monitor and audit the company to evaluate the accounts receivables size, but also allows for larger limit lines of credits, and can allow companies to borrow that normally wouldn't be able to. Generally, terms stipulating seizure of collateral in the event of default allow the lender to profitably collect the money owed to the company should the company default on its obligations to the lender.
Factoring of receivables, is a subset of asset-based lending and is often used in conjunction with a standard ABL facility which uses inventory or other assets as collateral. The lender mitigates its risk by controlling who the company does business with to make sure that the company's customers can actually pay.
Lines of credits to even riskier companies may require that the company deposit all of its funds into a "blocked" account. The lender then approves any withdrawals from that account by the company and controls when the company pays down the line of credit balance.
Further Information
Get more info on 'Asset-based Lending'.
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