Asset-based lending is any kind of lending secured by an asset. The asset acts as collateral for the loan and if the loan is not repaid, the asset is taken and liquidated by the secured lender. Though by this definition a mortgage is an example of an asset-based loan, asset-based lending more commonly describes lending used to finance businesses using assets other than real estate with such loan structures commonly being revolving lines of credit rather than long-term amortizations found in typical mortgage-backed loans. Collateral used for such asset-based loans include accounts receivable, inventory, and equipment. Asset-based lending is possible only in countries whose legal systems allow borrowers to pledge such assets to lenders as collateral for loans (through the creation of enforceable security interests. In the U.S. such filings are created with a Uniform Commercial Code (UCC-1) document filing.
Asset-based lending is a powerful form of asset-based finance and in many circles, is considered to be the “big brother” of factoring. In defining asset-based lending, it’s important to understand it is more than a simple collateralized loan. It is true that a collateral is pledged for the loan in all cases. But in true asset-based lending, it is the collateral itself that dictates the size of the asset-based loan and not the creditworthiness of the borrower. In an asset-based loan, it is not the overall operations of the borrower that secures the loan. It is the liquidation value of the collateral. In a traditional loan, credit analysis, balance sheets, and income statements paly the most important role in determining if a loan will be made. In a true asset-based loan, those will still play a part, the the primary focus will be on the value of the non-real estate business collateral…
Asset-Based Lending, along with factoring and floorplan finance are what makes up what is deemed the asset-based finance community. In the U.S., asset-based lending accounts for the largest portion of asset-based finance and today’s asset-based lending industry can be traced back to a pair of encyclopedia salesman (John Little and Arthur Jones) who sold their books in installments. Constantly in need of cash themselves, they created a way to sell the future installment payment for immediate cash (factoring) but found the notification involved with factoring to be problematic. To improve their finance program, the started the first commercial finance company, Mercantile Credit Co., which financed the installments with recourse but without notification.
Asset-Based loans are structured as “revolving lines of credit”. Unlike traditional bank term loans where a collateral is simply pledged for a fixed amount loan, revolving credit lines constantly “monitor” and account for the collateral adjusting the loan amount availability in relationship to the liquidation value of the available collateral. This is done through a series of weekly reports and/or periodic audits. Loan / credit availability is reported weekly in most cases and is based on a percentage of the fair market value of the collateral.