Summary:

• Asset-based lending, or ABL, is financing secured by business assets such as accounts receivable, inventory, equipment, real estate or intellectual property.
• Asset-based lending is a popular option among asset-intensive businesses, as well as businesses with cyclical cash flows or that are experiencing rapid growth.
• Asset-based lending tends to offer borrowers more flexibility than other types of financing, but it comes with more rigorous collateral monitoring. 

Whether a business is soaring or repositioning, companies don’t always have the necessary cash on hand to pay expenses or make the investments they need to grow. That’s when they typically turn to outside financing. One key tool that can help is asset-based lending. 

What Is Asset-Based Lending? 

Asset-based lending is financing secured by assets on a business’s balance sheet. The business pledges the assets — which may include accounts receivable, inventory, equipment, real estate or intellectual property — as collateral, and the lender applies a discount factor to those assets and issues a line of credit or loan based on the value of the assets. Manufacturers, distributors, retailers and service companies are a few examples of businesses that rely upon asset-based lending. 

Asset-based lending differs from other business financing options such as a cash flow loan, which is secured by a business’s expected cash flows, or an unsecured business loan, which is based primarily on creditworthiness. 

Liquidity is typically important in determining how much financing a lender will offer for an asset-based loan.

• In general, assets that are more readily converted into cash will receive a lower discount factor than those that aren’t.
• For example, a business can typically borrow more by backing an asset-based loan with $10 million in accounts receivable than with $10 million in inventory.
• Inventory, meanwhile, tends to offer more leverage than equipment, and so on. 

When Is Asset-Based Lending Used? 

Businesses often pursue asset-based lending when they need more money than they can get from other forms of financing. Asset-based lending is particularly attractive in certain cases, including for businesses that:

• Have substantial tangible assets. In industries involving manufacturers, distributors and importers, companies tend to hold large amounts of tangible assets like accounts receivable and inventory. Asset-based lending allows them to leverage the value of those assets to access working capital.
• Experience cyclical cash flows. Some retail businesses depend on one season of the year to generate most of their annual revenue. Meanwhile, companies that manufacture or distribute durable goods or companies in the automotive industry supply chain may have to navigate multiyear cycles of increasing or declining revenues. They can use an asset-based loan to pay expenses or invest in inventory during the part of the cycle when revenue is low.
• Are growing rapidly. If a business grows especially quickly, it can run into cash flow problems as management looks to open new locations and invest in more inventory. Asset-based lending can be a good fit for this situation, especially if the loan proceeds are used to acquire more assets.
• Are acquisitive. When one company buys another, it can be difficult to find a lender willing to finance the transaction on the basis of expected cash flows. With asset-based lending, the acquirer can leverage the assets of the target company to finance the deal.
• Throw off substantial dividends. It’s not uncommon for the owner of a family business to receive most of the company profits as dividends, preventing the company from building up large cash reserves. In this scenario, the company might rely on asset-based lending to meet cash flow needs on an ongoing basis. 

What Are the Benefits? 

The ability to leverage balance sheet assets to obtain working capital is the primary benefit of asset-based lending, but it isn’t the only one. Another benefit is simplicity: Asset-based lending agreements tend to have fewer financial covenants. 

Because asset-based loans are secured by collateral, lenders are typically less concerned with the company’s moment-to-moment financial performance. This can give borrowers greater flexibility in business decisions. However, lenders do tend to focus on the value of the pledged assets, and asset-based lending agreements generally come with rigorous monitoring of the collateral, including regular field exams and asset appraisals. 

Is an Asset-Based Loan Right for Your Business? 

If you’re considering asset-based lending, it’s important to keep in mind that having assets by itself does not guarantee this type of financing is a good fit. Lenders consider factors besides value and relative liquidity when making lending decisions. For example, they might assess the diversity and size of your customer base and the number of locations where your inventory is stored, each of which could affect the loan terms you are offered. 

Banks differ in their approach to asset-based lending, including their comfort with various types of assets and their reporting requirements.

Wondering if asset-based lending is right for your business? Eastern Bank takes the time to understand your goals and is here to support your commercial banking needs. To learn whether asset-based lending might be a good fit for your business, contact us.

The opinions expressed herein are those of the authors and do not necessarily reflect those of Eastern Bankshares, Inc., Eastern Bank, or any affiliated entities. Views and opinions expressed are current as of the date appearing on this material; all views and opinions herein are subject to change without notice. These views and opinions should not be construed as any specific recommendation. This material is for your private information and we are not soliciting any action based on it. The information in this content has been obtained from sources believed to be reliable but its accuracy is not guaranteed. There is neither representation nor warranty as to the accuracy of, nor liability for any decisions made based on such information.

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