Simply put, asset-based lending (ABL) is a way of lending money to companies. Such loans are made by commercial banks and by specialty finance companies, and loan sizes can range from several hundred thousand to many hundreds of millions of dollars. These loan proceeds are used to assist companies in high-growth, distressed, or sometimes even in start-up situations.

The Basic Concept

The most basic concept of asset-based lending is about the need for collateral, which can be defined as an asset of a borrower that can be sold off by a lender to have a loan repaid. There is an inverse relationship between general creditworthiness and the need for collateral, i.e. the greater the financial strength and profitability of a borrower, the less importance collateral holds. This is because a financially strong borrower is very likely to have the ability to repay a loan in accordance with the agreed-upon terms, whereas a financially weaker borrower is more likely to experience challenges to its viability as a company. Given this, a weaker borrower will more likely be forced to sell off assets to repay its ABL loan.

Think about a simple residential mortgage loan. Let’s say an individual is interested in buying a house for $400,000, and she is putting down $80,000 and applies for a mortgage loan of $320,000. The lender will consider two things in determining a loan approval: 1) does the borrower have an acceptable level of income to comfortably make the loan payments, and 2) if she cannot make the payments, can the mortgage lender reasonably sell off (foreclose on) the collateral (the house) to have its loan fully repaid. If the answer to both of these questions is yes, then typically the loan is made.

Conceptually, ABL is the same thing…the same two questions are asked by asset—based loan professionals in determining whether to extend a loan. 1) ABL loans are made to companies rather than to individuals, and 2) the company assets are not residential houses, but rather more complex assets like accounts receivable and inventories of goods. Examples of tangible assets include equipment, real estate, inventory, machinery and cash.

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