Asset-based lending is any kind of lending which is secured by an asset, a concept which most people will be familiar with in at least one form.
A mortgage is one of the most common examples of this type of lending and is also a good way to illustrate another key point of this sector of finance – the fact that if the loan is not repaid, the asset in question is taken.
In the case of a mortgage, this would see the property in question repossessed by the lender.
However, the phrase has a more general meaning in business and in the corporate world this type of secured lending is often tied to real estate, inventory, machinery and equipment, and even accounts receivable – that is to say money owed to the company looking to take out the loan – rather than just property.
These kinds of loans are usually obtained for the same reasons a company would pursue other types of commercial finance – to smooth cash flow issues and bridge the gap between payments it receives and its expenditure.
However, such loans are usually only sought when other forms of finance are unavailable to a company or do not meet its needs.
It may be that a business cannot raise cash through selling bonds, is unable to obtain unsecured or traditional mortgage secured bank lending, or that the company needs quick access to capital to fund mergers, acquisitions and similar projects.
Asset-based loans also usually attract a higher rate of interest than other forms of credit, meaning they can prove to be more expensive.
However, this is not always the case and the fact asset-rich companies that do not yet meet credit or liquidity requirements for other forms of borrowing can access money via asset-based loans makes them a highly desirable product in many cases.
The amount a company will be able to borrow depends on the appraised value of the asset in question, which means they are unlikely to be suitable for companies with little to offer in the way of collateral.
Likewise, a company with a strong cash flow and good credit history may find that loans based on these factors will be more suitable for its needs, although each individual case should be judged on its merits.
It is also vital to understand the degree of risk a company faces when it takes out any form of secured lending.
Still, it is important to remember the tightening of credit markets following the global banking crisis which began in 2007 only served to increase the popularity of asset-based borrowing as other forms of financing became even harder to obtain.
With many major economies struggling to recover from the problems caused by the crisis, asset-based loans have gone from being seen as a product of last resort to an increasingly attractive financing option.
The subsequent increase in demand for such loans has seen lenders specialising in the sector expand, while the major players in the banking industry have also increased the amount of resources they dedicate to the area.
With the ability to offer much needed cash at a time when credit can be hard to come by, asset-based loans may well offer a lifeline to companies who need one.