manufacturers, wholesalers and commercial service businesses. According to the Commercial Finance Association, of the over $200 Billion asset based loan market, manufacturers represent approximately 31% of the total asset based loans outstanding in the U.S. Wholesalers are next at 28%, followed by retailers at 17%. Manufacturers and Wholesalers will of course often have inventory to borrow against as well as accounts receivable. Retailers also often qualify because they can utilize their store inventory as collateral. Service businesses often make attractive borrowers because they only have their commercial accounts receivable to pledge as collateral, creating a “receivables-only” loan, making the lender’s job much easier.
There are asset-based lenders that make loans as small as $100,000 and there are a select few that look at transactions in excess of $1 Billion. Some 75% or more of asset-based customers borrow less than $15 Million. Today, the major national companies tend to want transactions in excess of $5 Million, while the deal market under $5 Million is served by regional firms and small independent lenders.
ABL as an Alternative Form of Debt Financing
ABL works well in a number of situations that create significant problems for traditional bank lenders. One such situation is the highly leveraged transaction. Because banks are constrained by both internal credit philosophies and by federal regulations, they typically do not accept transactions with debt to worth ratios higher than four or five to one. Asset based lenders which are either non-bank affiliated, or which are structured as separate subsidiaries of banks, have no such constraints. This freedom allows the lender to finance those companies that are thinly capitalized or who wish to “overtrade” on their equity to maximize their ROE.
Companies that often fall into this category include rapid growth businesses that, in effect, outrun their equity base. Again, this gives banks a considerable problem, and in turn creates an opportunity for asset based lenders. Leveraged acquisitions also present prime opportunities for asset based lenders. The acquirers of a target business utilize the company’s assets to borrow against to effect the acquisition transaction. Asset-based lenders typically require a smaller equity contribution than do banks in such situations. Another common utilization of ABL is for the financing of companies in a turnaround mode or in a restructuring such as a Debtor in Possession or Chapter 11 exit financing. Again, these situations are outside the purview of conventional bank credit, but often provide quality lending opportunities for an asset based lender.
The Growth and Evolution of ABL
From its very earliest stages and well into the 1970’s, asset based lenders were often viewed as the “lenders of last resort” meaning that respectable companies got their money from banks and that companies which borrowed from “non-bank finance companies” were somehow stigmatized. That began to change very rapidly as asset based lenders led the charge in financing the leveraged acquisition boom in the 1970’s and 1980’s. Asset based lenders also embraced retail financing during the 1990’s, an area that had been previously avoided. Retail finance is now a major component of many asset-based lenders’ portfolios and there are asset-based lenders that exclusively finance retail operations.
ABL is now considered a viable alternative to conventional bank lines, which provide limited liquidity, as well as equity raises, which are often cumbersome and expensive. Asset based loans today are common in virtually every business segment, including service, technology, healthcare and others that were considered off limits just a few years ago. Asset based lenders are also becoming increasingly sophisticated, offering machinery and equipment and real estate loans, mezzanine financing, cash flow term loans, and other financing variants.
The decline of many traditional industries such as textiles, many metals industries, furniture manufacturing and others has caused asset based lenders to look to new industries and markets, as well as to introducing new lending products with which to serve those industries and markets. This trend is likely to continue as the U.S. moves to a service economy and globalization of business becomes more and more a fact of life. Some ABLs have recognized the need to address these new realities by creating international trade finance products and establishing operations internationally to address these new market opportunities. Canadian companies today are often financed by American asset based lenders as readily as if they were domestic companies.
Forward looking asset based lenders are striving to provide value added services such as cash flow products, international trade financing products and other financial offerings to expand their markets. This trend will doubtless continue, along with continued consolidation within the industry, such as the acquisition of Heller Financial by GE Capital. At the same time as major diversified firms grow and expand, smaller independent companies are arising to meet the demand for asset based loans at the lower end of the middle market. As marketplace voids are created, new ABL units move to fill them. The ABL industry has continually changed and evolved and market leaders have come and gone. The successful ABLs tend to be those which adhere to the industry fundamentals and at the same time have the vision to continue expansion into wider markets with more diverse and flexible product offerings.
Barry Yelton is a 28-year veteran of the asset based lending industry. A graduate of the University of North Carolina at Charlotte, he is Vice President, Origination for GE Capital Business Credit in Charlotte, NC. He is Co-Founder and Vice Chairman of the National Funding Association, and Co-Founder and past President of the Carolinas Chapter of the Commercial Finance Association. He can be reached at (704) 679-6213.