Asset-based lending, as the name suggests, refers to any loan taken by keeping your assets as collateral. In business parlance, it refers to the loan that is secured by an asset. The assets could include hallmarked jewelry, accounts receivable, inventory, marketable securities, property, and machinery. It is generally taken by small or mid-size businesses to cover the short-term needs of the business. In case of default or non-payment, the lender has the power to sell your assets and recover the outstanding debt amount.
Asset-based lending is more reliable as compared to unsecured loans resulting in a lower rate of interest. Collateral that could be liquidated easily is considered much safer than the assets that take time to get liquidated. For example, any asset like account receivable can be liquidated easily in a short span of time rather than property or machinery, which needs time to get liquidated as we need to find the buyer to get it converted into cash. Thus, we can get a loan at a lesser rate of interest on assets that could be turned into cash easily than those which need time to get liquidated.
- One can easily get a loan by keeping the assets as collateral
- Liquid assets could bring you less rate of interest and are preferred in asset-based lending
- Often taken by small or mid-size businesses to meet the short-term cash flow demands
Like other secured loans, asset-based lending also uses the loan-to-value ratio for assessment. The loan-to-value ratio means that the loan amount has to be in proportion to the value of an asset that is used as collateral. For example, if you need a loan of Rs. 1,00,000/- and the asset that you are keeping as collateral amounts Rs. 1,30,000/- then the loan-to-value ratio is less than 1. This is a favourable situation for the lender, and therefore makes it easy for borrower to get the loan too.
The formula to calculate the loan-to-value is:
Loan-to-value Ratio = Loan Amount / Asset Value
Advantages of Asset-based lending
To the Borrower:
- It is easy to obtain than unsecured loans
- Asset based lending generally comes with a lower rate of interest than any other funding options
- The loan amount can be used as per the borrower’s need as there are fewer covenants.
To the Lender:
- In Asset based lending, there is less risk involved as assets are kept as collateral.
- In case of default or non-payment of debt, the lender is authorized to liquidate the asset and recover his debt amount.
Keep your credit score high to get asset-based loans easily and quickly. For more information and better understanding speak with Capital 9 professionals.