What is Asset-Based Lending?

In the lending industry, an asset-based loan (ABL) or line of credit is secured by certain types of collateral. These types of loans are frequently used by small and mid-sized companies to satisfy their short-term cash flow needs. (Also known as a “working capital” line of credit)  They may use the loan to purchase inventory, pay suppliers, or to cover expenses such as payroll and rent.

If you’re considering asset-based lending for your business, it’s important to know how it works, who qualifies, what it costs to borrow money in this way and how it differs from invoice factoring. Keep reading to learn the advantages and disadvantages of an ABL loan and to determine if it’s the right choice for your organization.

What is an Asset-Based Loan?

With asset-based lending, collateral (assets that have a certain value) is used to secure the loan, in addition to the company’s commitment to pay on the loan agreement. If the borrower defaults on their payments, the lender has the right to sell these assets in order to be paid back. This provides businesses with an incentive to stay current on their loan payments, and it reduces the risk for banks and other lending institutions. For businesses, collateral can be tangible or intangible.

Tangible assets include:

  • Accounts receivable (the most common)
  • Inventory
  • Equipment
  • Buildings
  • Vehicles
  • Land

Intangible assets include:

  • Purchase orders
  • Investment funding, securities
  • Payment rights
  • Copyrights and trademarks

Typically, the value of the collateral will exceed the amount of the loan and will include the lender’s full costs if they must seize and liquidate the assets. Liquid assets, such as accounts receivable and inventory, are preferred by lenders as they’re easier to convert to cash. With accounts receivable, a company can usually borrow on 70-85% of the value of their eligible collateral. With assets like inventory or equipment, it may be 50% or less.

Asset-based lending can be a revolving line of credit or an asset-based term loan that amortizes over a period of time, with principal and interest paid monthly.

Who Uses Asset-Based Lending?

Companies that use asset-based lending are typically those in need of a cash infusion for daily operations or to advance to the next level. An ABL is attractive to companies that are growing quickly but don’t have the necessary funds to take that next step. This type of loan bridges the cashflow gap so that they can grow.

Who Qualifies for Asset-Based Loans?

To qualify for ABL lending, a company must be stable with financeable assets that aren’t used elsewhere as collateral. Asset-based lending is primarily available for small and mid-sized businesses and can be easier to qualify for than other types of business financing. The company must be free from certain legal, accounting or tax problems that could jeopardize the collateral.

What is the Cost of an ABL?

ABL loans are usually priced according to the amount of the loan, the type of collateral used and the risk level. Most use an annual percentage rate (APR) of between 7% and 17%, and there may be additional fees for origination and administration. These added costs for an ABL are often due to greater investigation and administration of the collateral.

How is an Asset-Based Loan Different from Factoring?

With an asset-based loan, the company uses their accounts receivable as collateral for the loan. With factoring, the business sells its receivables for the cash it needs right away, rather than having to wait between 30 and 90 days for invoices to be paid. As part of the purchase agreement, the purchasing company will notify the payer and verify the invoice’s accuracy.

Should I Choose Factoring or Asset-Based Lending for My Business?

There are several factors to consider when choosing between an ABL or factoring to improve cash flow for your business. Depending on how long you’ve been in business and what assets you have available for collateral, you may be eligible for one type of business financing but not the other.  Sometimes, there can be significant overlap between the two financing options, so it’s best to consult with a professional who has experience with this type of lending.

Considerations include:

  • Is your company new?

In factoring, the company that buys your receivables takes ownership and is responsible for collection. They might process invoices and run credit checks on your customers, saving you time and money. An asset-based lender looks at your company’s payment history as well as that of your customers, in addition to company assets like inventory and equipment.

  • Do you need money fast?

Factoring arrangements can close faster than an ABL, but once established both types of financing can produce cash in a relatively short time frame – usually 1 to 2 days after you invoice your customer.

  • How much money do you need?

While an asset-based loan is usually for a few hundred thousand to a few million dollars, factoring does not have a minimum.

  • Do you want a flexible arrangement?

Your company can sometimes have more flexibility with a factor than a bank or institutional lender. There’s less paperwork and you won’t be restricted with regards to your profitability, acquisitions and how you use the funds.  Some banks will also factor invoices, which allows the company to more seamlessly move into an ABL as the company grows and gains stability.

Use CFOShare’s Services to Help Secure Funding for Your Small Business

A fractional CFO can help your startup or small business navigate the process of securing funding through an ABL or factoring. They’ll give you expert advice on which type of funding is best for your business and assist you with other financial tasks, on an as-needed basis.

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