Does your organization have accounts receivable and inventory that can be leveraged to improve liquidity? The nature and quality of your working capital can make all the difference.
Companies that maintain high levels of quality working capital assets and produce modest cash flow are ideal candidates for an asset-based loan (ABL).
Find out if an ABL is right for you
Current asset collateral is key for leveraging an asset-based loan. Manufacturers, distributors and retailers are good candidates for ABLs as they invest significantly in working capital and, in some cases, produce relatively low free cash flow (FCF).
“An ABL can be perfect for a company of this profile, particularly if they are poised for rapid growth, acquisitions or considering a shareholder buyout,” says Dave Slavik, senior vice president for U.S. Bank Asset Based Finance.
The traditional way to measure senior debt capacity is a function of cash flow, typically calculated as a three to four time multiple of EBITDA (earnings before interest, taxes, depreciation and amortization). ABL uses a borrowing base predicated on working capital liquidation values, which typically range from 50-75% for inventory and 85-90% for accounts.
Many companies can generate higher debt capacity via a borrowing base, rather than traditional commercial loans.
Eligible collateral has a hierarchy
“Lenders specializing in asset-based loans look for collateral that’s liquid,” Slavik adds. The stack-rank asset preference is typically as follows:
- Receivables
- Inventory
- Equipment
- Real estate
“The higher an asset is in the ranking, the more liquid it is,” Slavik explains. “Ideal collateral are accounts receivable or inventory that’s easily valued and monetized. These include commodities such as metal, lumber, food, fuel or oil. Generally, the faster the asset's turnover, the more attractive it is as collateral.”
Conversely, ineligible assets are usually those with lower value or those that may be subject to material shifts in consumer trends. For example, a wholesaler of shingles is considered stable because the size, look, construction and volume of inventory isn’t likely to experience material year-to-year changes. This stability isn’t the same for a wholesaler of apparel or technology-based products. Both examples are subject to potential obsolescence due to changes in demand trends and product mix.