Asset-Based Lending (1)
May 31, 2006
Joel M. Scoler
Total asset-based loans outstanding in the United States in 2004 were valued at $347.2 billion, whereas such loans in Canada in the same year totalled approximately $10.45 billion. The market in Canada is, however, growing. This growth is being fuelled by various factors that will increase the market acceptance of asset-based lenders as standard alternative lenders rather than as ‘lenders of last resort’.
Asset-based lending is a form of financing provided by banks and other financial institutions where borrowing capacity is based on the amount, liquidity and quality of the assets of the borrower.
An asset-based lender bases its analysis on the borrower’s ability to repay the loans from the sale of the assets rather than from cash flow and looks mainly to the borrower’s assets valued on a liquidation basis for repayment of that loan. Asset-based loans are typically made available by way of a revolving line of credit where the borrower can borrow, repay and re-borrow during the term of the credit facility.
Asset-based lenders require far fewer financial covenants as compared to cash flow lenders and in some cases, none at all. As a result, a borrower who is suffering negative earnings may continue to access its credit facility so long as it has sufficient assets.
Among the requirements that form part of any asset-based loan are:
- a cash management system, to control and monitor the cash proceeds of the sale of the assets;
- ongoing collateral monitoring;
- extensive due diligence over the assets prior to the making of the loan;
- tests for eligibility of assets; and
- requirements regarding third party documents to ensure priority of security.
McCarthy Tétrault Notes:
Companies and their CFOs should familiarize themselves with the key concepts of asset-based lending to evaluate whether such an alternative would be advantageous to their situation. These transactions require appropriate lead time and are document-intensive. Companies are often well-served by choosing counsel who have asset-based lending experience.
Click here to read the full article by Richard Higa and Ed Ra, which provides further details on asset-based loans.