Weighing up asset-based lending

The severe drying up of credit has changed the market for business finance beyond recognition. GB reports on the asset-based lenders who are stepping in where banks now fear to tread.

‘The bank told us that its lending policy had changed. We had eight days to save our business.’ Tony Stones, MD of importer The Champagne Warehouse, started his company in 1999 as a hobby. It became more than that three years ago when he started taking orders from supermarkets.

Despite the company’s profitable growth (expected sales for this year are £4 million, roughly triple last year’s), its bank decided last autumn to reduce its funding line, leaving Stones no way of financing the seasonal rush.

‘You would have thought, with supermarkets, there is obviously little risk [of not being paid],’ says Stones, who had an order book of £3.5 million when the bank dropped its bombshell. ‘But banks don’t look at it on a case-by-case basis: they have a scorecard.’

With barely a week to spare, Stones managed to arrange an invoice finance package worth £1.75 million. ‘It’s a lot more expensive [than bank lending], but we had to do it, otherwise we’d have been out of business,’ he states.

Maximise your assets

Invoice finance is the key plank of asset-based lending (ABL), whereby money is advanced against a company’s assets. In the case of factoring, the most popular form of asset-based finance (see figure 1), the lender even collects your debts for you. Apart from invoices, other suitable assets are stock, machinery and buildings, though the latter presents problems at the moment due to falling valuations in the commercial property market.

Because specialised asset-based lenders only advance money against a portion of the value of the asset (typically up to 85 per cent in the case of invoices), the lenders’ money should, in theory, be safe, leaving the industry somewhat insulated from the chaos that has brought clearing banks to their knees (see figure 3).

‘Asset-based lending is benefiting from the retrenchment by the banks,’ says Clive Naylor, director of trade finance at asset-based lender Davenham. ‘For us, enquiries have doubled year-on-year.’

Kate Sharp, CEO of the Asset Based Finance Association (ABFA), concurs. ‘Asset-based lenders are getting more approaches. But the quality of those approaches is not always what would be desirable, so it is harder to approve facilities.’

In other words, greatly increased demand for ABL isn’t being matched by supply, even if the industry continues to demonstrate double-digit growth in terms of money lent, as data collected by ABFA suggests. Nevertheless, for businesses such as The Champagne Warehouse, it can provide a lifeline.

Last chance saloon

It may have struggled to shake off a reputation as “the lender of last resort”, but in a shrinking economy, that is exactly what ABL often turns out to be. Says Naylor, ‘If a business has to go into administration, ABL can fund the new company that comes out the other side.’ He points out that insolvency practitioners will often approach lenders to advance money against the debtors or stock of a bust business, helping fill a black hole in the balance sheet.

See also: The facts about asset based finance

Rob Righton is corporate finance director at workwear supplier Trojan. As with The Champagne Warehouse, Trojan’s bank ‘didn’t have the appetite to go the extra mile’, and pulled out after the company won a big contract with energy company Centrica. Righton approached the clearing banks but there was a ‘lack of interest in the level of funding needed’ (about £1.5 million). Again, the solution turned out to be ABL.

‘The banks are being very difficult, very restrictive in what they’re prepared to do especially with small to medium-sized businesses,’ says Righton, who also works with other companies looking for finance.

Significantly, Righton adds that asset-based lenders, as well as banks, have become more cautious. ‘The whole scenario for raising finance has changed dramatically. Two years ago it was about looking for the best deal, now it’s just about trying to find any sort of a deal.’

In addition, the difference between the rates banks charge and those offered by ABL has increased, Righton states. ‘I’ve not seen anyone get less than double figures,’ he adds.

Hobson’s choice

Of course, pricing is irrelevant if there’s only one deal available to keep your business afloat. Naylor concedes that ‘the market is less price sensitive’, but maintains that ‘ABL is no more expensive than it was two years ago’ because of the reduced Bank of England base rate, even where lenders’ margins have increased.

Sharp says ‘there is no direct comparison’ between bank lending and asset-based finance: an overdraft, say, is a ‘purely financial product’ while the pricing of ABL has to cover the extra work done by the lender in looking at your business, doing due diligence on your clients, and in the case of factoring, collecting your debts for you. Nevertheless, ‘the purely financial side of invoice finance almost always works out as similar to the banks’, Sharp states.

None of this means that the ABL industry is immune from the credit crunch. It’s taking an average of ten days longer for lenders to collect debts from their clients’ customers compared with three years ago, according to ABFA data (68.6 days as opposed to 58.7). Sharp says that ‘two things can happen’ in the current environment: ‘One is you lose money, the other is you have to work extremely hard to get your money back’. And a lot of the expected growth in business for mid-market-focused lenders has still to materialise (see box).

For SMEs, there’s no question that it’s a real struggle to raise cash, whether for expansion or just to keep going. But go back two years, before the words “credit crunch” became global currency, and it’s easy to remember the same complaints about banks’ extreme risk aversion over growing businesses and the expense of alternatives. Stones of The Champagne Warehouse gives advice that rings true.

‘Get everything you agree [with lenders] in writing and make sure you arrange it well ahead of time,’ he says, adding that you should anticipate any spikes in cash flow requirements and plan ahead: ‘Never think you’ve got a few months to sort things out.’

The Lenders’ Perspective

The market for ABL deals in the tens of millions and above was expected to expand rapidly as more aggressive lenders fell foul of the credit crunch and banks withdrew from the fray. But so far an increase in enquiries has not translated into hard deals.

‘Back of last year, we had a flurry of enquiries when the problems in the Icelandic banks first occurred,’ says Tanya Grubic, senior business development officer for Bank of America, which has a European asset-based lending arm. ‘Many UK companies were clearly concerned about their lender’s financial difficulties. Since then, I’m a little surprised that volumes [of transactions] have not been higher.’

Waiting game

As in other sectors of the economy, decisions about mergers and acquisitions, and even restructuring or refinancing, seem to be on hold as businesses hope for a return to normality.

‘The de-leveraging process has been violent and the landscape has changed,’ comments Phil Lammas, sales director at GMAC Commercial Finance. ‘When we emerge from this period, ABL is going to be the key form of lending. It is a safe harbour in a storm.’

Steve Chait of Burdale Financial agrees that ABL can only grow in a market where more brash and buccaneering forms of lending have bit the dust. ‘The days of pushing the envelope with, for example, funding 100 per cent of debtors and an aggressive cash flow deal are gone. ABL is not so focused on earnings, but more on assets, and cannot get near the amount of debt done through the leveraged EBITDA deals.’

One thing is clear: no-one is betting on a return to aggressive lending.

Nick Britton

Nick Britton

Nick was the Managing Editor for growthbusiness.co.uk when it was owned by Vitesse Media, before moving on to become Head of Investment Group and Editor at What Investment and thence to Head of Intermediary...

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