Wednesday, July 9, 2008

Relation between asset-based lending and accounts receivables

One cannot possibly deny the vital part asset-based lending plays in the country’s economy. But there’s where the matter ends for most of us; at the most, we nod in acceptance of the fact that asset-based lending is a dedicated act that makes the clients flourish. Those who are a little more knowledgeable on the fact shall clarify things a little further; it’s all about lending money on fixed assets. However, the fact that remains in the shadows is the phenomenon also embraces accounts receivable as well as the inventories. Those who are into it shall go several steps higher to speak about collateralized lending; their know-how-s on structuring a proper financing program for businesses are shaping today almost all types of products and services on both domestic and international grounds. However, anything more spoken on the subject right now is like asking someone with a prior experience on throwing stones to fire a .50 ACP bore handgun; let us clear our confusions first on what’s exactly meant by asset based lending.

What is asset based lending?

ABL – that’s how the business world recognizes an asset based lending. No doubt it’s another loan product, but it provides credit facilities that are fully collateralized. The borrowers, thus, are benefited by the high financial leverages while cash flows are kept at the marginal level, resulting from:

• Acquisition
• Re-capitalization
• Turnaround
• Growth Financing
• Management Buyout

The collateral (liquidation value of accounts receivable, inventory and fixed assets) limits asset-based lending, the typical scene being a three-year long revolving credit supporting the required working capital. The process may also be inclusive of a term loan that doesn’t exceed 40% of the credit facility (combined and in total) and liquidating gradually between 5 and 15 years. This, however, depends on the underlying asset’s useful life.

The point on which an asset based lending program differs from a traditional, commercial financing is its primary focus on the collateral’s liquidity; the leverage and cash flow factors are considered secondary. More liquidity and less financial paperwork being its prime forte, asset-based borrowers happily agree to go for the higher financial leverages and fringy cash flows.

Relation between assets based lending and accounts receivables.

Accounts receivables are all about the amounts customers owe in return for goods and/or services provided. This can definitely be termed as a loan given to the customer by a company and hence the company is supposed to receive it back after a certain period to merge it with the working capital. That makes accounts receivables an asset and hence, considered a vital factor to be considered for asset based lending.

This makes asset-based lending allow higher amounts to be borrowed. As a result, the accounts receivable make the lenders less concerned on leverages (debt: equity) and focus more on operating cash flows. All over, the practice represents a business with an ability to meet obligations on the interests. However, it must also be considered that accounts receivables, though backed by calculations, is an assumption the company makes on its expectations. It’s not that all accounts receivables meet fruition.

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