A New Revitalization of an Old Lending Practice
In the simplest meaning, asset-based lending is any kind of lending secured by an asset. This means if the loan is not repaid, the asset is taken. A home 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 game. If it fails to repay, the bank then owns the 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 – is not possible. This is usually because the company is in dire financial status. Thus, asset based lending can be compared to sub-prime lending. It is usually accompanied by high interest rates, and can be very lucrative for the parent company. As an example, Wells Fargo made more money from its asset-based lending business than 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 do not adequately reflect the risk. Most financial services companies now only lend as part of a package of services, or do asset based lending or other more lucrative businesses.
Assets can be:
- Accounts Receivables
- Inventory, including marketable raw and finished goods
- Machinery and Equipment
- Real Estate
- Personal Assets
With few exceptions, little has been written about asset-based lending. Most of the attention in leveraged loans these days has gone to the cash-flow crowd. Yet buyout practitioners are now making full use of this decades-old corner of the capital markets.
If you are under-capitalized, but have good performing receivables, and are growing faster than your cash flow intake, ABL is the ticket. Especially for manufactures, distributors and service companies with a leveraged balance sheet whose seasonal needs and industry cycles often disrupt cash flow. If this scenario sounds like your reality, drop us a line at firstname.lastname@example.org. We can help.