Asset based lending (ABL) refers to lending secured by an asset. It refers to a lender loaning money in an arrangement secured by collateral. That is, asset based loans are secured by assets such as inventory, accounts receivable, equipment or property owned by the borrower. These types of loans are targeted at businesses rather than individuals.
With an asset based loan, if the loan is not repaid, the assets are taken by the lender. Asset based loans are devised for the same purposes as other forms of business credit. That is, to allow companies to cater for their expenses when cash flow is limited. Also known as asset based finance, asset based lending is a specialised method of providing companies with working capital they can use to run their activities before receiving income.
Benefits Of Asset Based Lending
There are various benefits attached to taking asset based loans, which often means businesses consider them a preferable source of credit finance over other types of finance. These benefits include:
1. Asset based loans are easily obtained
Securing business finance can be difficult, especially for small businesses. This is because of the stringent conditions attached to obtaining traditional business loans. Before these loans are given out, lenders often take their time to assess and review the income and profitability of the business applying for the loan. As a result, a business’s credit score as well as profits are sometimes used as a reason to disqualify them from receiving such loans.
Asset based lending avoids the long qualifying process associated with traditional business loans. Asset based lending acts as an alternative to these traditional forms of business credit. This is because asset based lending is concerned with a business’s assets rather than its credit profile. So to qualify for an asset based loan, all a business needs is to own assets equal to or higher than the amount being requested as a loan.
2. Asset based loans increase the credit-worthiness of a business:
Most businesses that apply for asset based lending are small and medium scale enterprises which are often not matched to other forms of business credit finance. This is because their profiles do not match those often required by traditional lenders such as banks. Often they do not have a long credit history and their revenue is relatively small.
In searching for an alternative source of credit finance, businesses often turn to asset based lending. Your business credit history and score is then built up by repaying your asset based loan, allowing you to qualify for other forms of financing in the future. This, in turn, increases your business’s access to working capital.
3. Asset based lending provides businesses with funding when needed
Businesses require adequate funding to effectively run their operations. These funds may be difficult for a business to raise at certain times, particularly if the business is small scale, or a startup. Unlike traditional forms of credit finance for business, asset based lending is easily obtained. The process of obtaining these loans takes very little time.
In fact, the bulk of time is spent underwriting the business’s assets. Once this has been completed, it usually takes just a few days for you to receive the income. With access to quick working capital, businesses can smoothly run their operations without interruption.
4. Asset based loans are flexible
These loans are more flexible than other forms of business credit finance. There are fewer limitations or constraints to asset based loans. Once businesses are given these loans, it is their decision to decide how they choose to utilise the funds received. The business may choose to use the funds for its stated purpose or invest in a different area where need has arisen.
As your business’s sales and the value of your receivable assets rise, the amount you can receive in finance, also increases. This is because the amount of financing you will be eligible for is based on your accounts receivable as well as your business’s assets. Applying for new loans then becomes easier and your business also becomes eligible for larger loans.
5. Asset based loans have lower interest rates
Lower interest rates are charged on asset based loans as compared to unsecured bank loans. The reason for this is that asset based lenders take fewer risks by giving out these loans as they would in the case of unsecured credit finance. The assets the business borrows against are usually over and above the amount being requested as a loan so the lender can be pretty sure they will be able to retrieve the value owed to them under any circumstance.
In a case of default, the lenders bear almost no risk. As a result there is no need for lenders to charge high interest rates on the amount loaned. The business therefore pays lower interest than would be charged if you took out an unsecured loan.
6. Asset based loans have fewer covenants
Unlike other forms of credit finance, there are fewer covenants attached to asset based lending. As such, it allows businesses to stay compliant and manage the line of credit easily. The only limitations here being that funds received must be used for business purposes.
Limitations To Asset Based Lending
Like all forms of business financing, there are limitations to asset based lending which a business must keep in mind when taking out these loans. These include:
- Lenders may periodically want to verify a sample of invoices.
- Lenders may want to scrutinise larger transactions to ensure that the borrower’s customer has the capacity to pay fully and on time.
- Payment is usually handled using a “lock box” arrangement where the borrower’s customers make payment to the lenders. The lenders then credit the received funds against the loan balance.
Asset based financing provides businesses with credit finance that it might not otherwise be eligible for. This form of financing provides businesses with essential funds that aid the smooth running of operations without interruption.