Print Edition
September 2010 
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Asset-based Lending In The Current Market Place |
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Pauline Renaud, September 2009 |
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Page 2 of 2 |
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The other benefits of ABL for borrowers include the fact that it provides a revolving line of credit attached to asset values. In other words, the borrower can use the facility only when needed and pay it back when money is available. “Also, ABL represents a source of funding that will grow in line with sales. This can be an advantage as the recession ends, due to the fact that ABLs are well placed to support increased working capital needs, unlike other funders,” asserts Mr Beveridge. The financial resources of the borrower will also be affected less by a slowdown in business. For lenders, the ABL borrower is usually a long-term client that provides steady revenues. It also represents funding linked to collateral values, which can be monitored. The lender gets information, on a regular basis, regarding the borrower’s situation, and can therefore react quickly if issues arise, explains Mr Morse. “The reporting and monitoring of the borrower and its assets provide the lender with a basis for better understanding its risk and being proactive in dealing with such risks.
Also, having the collateral as a basis for its exposure gives a better exit than for most debt products,” he says.
Even though ABL is attractive for both borrowers and lenders, there are a number of risks attached. Fraud and information manipulation is one, although it can be mitigated by collateral monitoring and auditing, among other tools. Another risk is that changes in asset valuations are constant, making it essential for the lender to maintain the proper ratio between the outstanding loans and the value of the collateral. Hence companies with reliable valuations are usually the best candidates for asset-based lending. “Also, one of the risks in asset-based lending is the risk inherent in specific asset types,” says Mr Veatch. “In other words, it is not sufficient to simply take a perfected, first-priority lien or security interest in all assets, but rather it is essential to understand other factors that may make it difficult to realise value upon a foreclosure on the collateral. For example, as a general rule, a lien on licences for intellectual property cannot be enforced without the consent of the licenser. Therefore, it is essential to understand when third-party licenser consent is required,” he explains. Mr Veatch also gives the example of assets that are on lease, such as shipping containers. In such cases, he recommends understanding the nature of the leasing business, including fluctuations in utilisation rates and rental rates.
Specific issues can also arise in cross-border deals, given the different legislations involved. Such transactions are particularly attractive in the current turmoil, as they allow investors to enter new markets, but there are several legal risks attached. “The lender must be connected with perfection issues, as all legal domains have specific nuances which affect perfection,” insists Mr Clarke. “It is suggested that the lender procures legal counsel who are fluent in local laws to do the documentation in the specific country where the borrower is domiciled.” Obtaining advice from local professionals is indeed essential to avoiding potential pitfalls. Regarding liens, for example, various options exist. In some jurisdictions, title retention may be preferable to a security interest, while in others, a letter of credit is advised. Concerning taxes, liabilities can be minimised by careful planning, so that parties can take advantage of tax treaties. “Also, it is important for the lender to understand the insolvency process in the applicable jurisdiction, as well as the basis on which an insolvency administrator, receiver or other court-appointed official might seek to avoid the liens of the lender, and how the insolvency administrator might approach the realisation on the assets,” explains Mr Morse.
Mitigating those issues and being able to seize opportunities related to ABL is particularly important, as activity is expected to continue growing over the next few months, at least. “This should be the time when ABL can become the mainstream and preferred source of lending for businesses, driven by Basel II, and the scarcity of available capital for banks following the recapitalisations and recession. ABL will increasingly be promoted by the professional advisory community as the best way of sourcing funding, as we come out of the recession,” predicts Mr Beveridge. Some experts also believe that restructurings, workouts and insolvencies will continue to dominate ABL activity, given that most companies are currently trying to navigate the downturn. “Although there is a preponderance of questionable loans in this present toxic economy, lenders are hesitant to do write offs but will elect instead to do restructuring, allowing the borrower enough recovery time after weathering this difficult economy,” says Mr Clarke. But ABL will also continue to steadily grow in other areas, particularly in ‘club deals’ and the middle market. Indeed, despite the fact that all lending activities have been impacted by the recession, debt is still being utilised as a tool. And the various benefits attached to ABL are expected to continue making it one of the most popular types of credit facility in the current financial climate.
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