Asset-based finance can be termed to refer to technological means of providing companies with term loans and working capital that incorporates collateral. To secure short-term financing, borrower companies may use collateral such as existing inventory, accounts receivable, real estate, pieces of equipment, and machinery. In most scenarios, the asset-based funds are used for financial growth, refinancing existing loans, and short-term working capital to run the day-to-day operations like managing buy-outs and buy-ins or payroll.
Short-term asset-based financing is considered viable when a company determines that it lacks enough funds from assets to cater to unexpected costs and current liabilities. The company can opt to use finances to secure assets and be entitled to full use of the asset over a set period as regular payments are made to the lender. Or the company guarantees the loans by pledging the assets as collateral. Typical means of short-term financing include;
Factoring: This is a financial service through accounts receivable. It entails pledging the receivables or selling them outright through affacturage to an agent. The third-party financial institution purchases the company’s account receivable at a discount either via advance factoring or recourse factoring financial service. Advance factoring entails purchasing company accounts through advance payments before maturity minus the agent’s commission. Recourse factoring is when the company sells accounts receivable to the agent, but the company must buy back any unpaid receivables.
Bank loans: It entails lending and signing of the conventional promissory note. The finances are payable either in installments or in a lump sum at maturity, depending on the agreement between the borrower and the bank.
Trade credit: This involves an informal business-to-business agreement whereby a company purchases a service or goods without upfront payment to the supplier. The short-term asset-based financing method allows the company to sell the inventory and repay the supplier later, usually 30-90 days after the initial purchase date. The supplier has the upper hand in determining the repayment terms and price.
Types of Asset Financing
Hire-purchase: The initial rule claims that the lender owns the asset until the loan is paid off.
Equipment lease: Through a contractual agreement, the borrower uses the equipment for an agreed period.
Finance lease: The borrower takes the obligations of ownership for the duration of the lease.
Asset refinances: It entails pledging of assets as collateral.
Reasons for using Asset financing
Securing loans via assets: Unlike traditional loans that check on a company’s creditworthiness, asset financing instead considers the value of the asset. The borrower can quickly pledge collateral from balance sheets such as indicated assets.
Easy and fast to obtain: with more flexibility and few restraints and covenants, companies are attracted to the short-term asset-based credits. The loan incorporates fixed interest rates aiding the company to manage its cash flow.
Securing the use of the assets: Through asset financing, the company can acquire the support they require operating. In case of default repayments, a lender would seize company assets.
The value of the assets necessitates the amount of loan rendered via asset financing. Short-term credits mostly use common types of collateral such as inventories and accounts receivable. The asset-based loans are more flexible but integrate high financing costs.