Working Capital Financing – Why Asset Based Lines of Credit Work
How can Canadian business owners and financial mangers obtain working capital financing and cash flow financing for their business at a time when it seems that access to business financing provides meaningful challenges?
The answer is that a possible substantial solution exists by the name of an ‘asset based line of credit ‘otherwise what we call a ‘working capital facility’. What is this kind of financing is it new to Canada, and more importantly – how does it work and what are the benefits and risks?
Although asset based lenders tend to be specialized independent finance firms many business people are surprised to find that thorough in the bowels of a few Canadian bank there exists small, slightly boutique, divisions who specialize in asset based lending. Ironically they are many times competing with their peers down the hall in more traditional commercial corporate banking.
The most active assets these firms finance tend to be current receivables and inventory, but in many situations, employing an expert advisor or partner you can structure a facility that also includes a part of equipment and real estate.
Generally speaking a good way to think of an asset based line of credit is one that for a permanent period, typically a year or so in our experience, allows you to margin up and get higher advances on receivables and inventory. That translates into more cash flow and working capital.
One of the main attractions of an asset based lending facility (insiders call it an ABL facility) is that your firms overall credit quality doesn’t play the largest role in calculating if you can get approved for this kind of financing. As its name suggest, financing is on your ‘assets ‘! And doesn’t really focus on debt to equity ratios, cash flow coverage, loan covenants, and outside collateral. Business owners who borrow from Canadian chartered edges on an operating or term loan basis are of course very familiar with those terms – in some ways we could call them ‘ restrictions ‘
Most lawyers and accountants will tell you that any kind of business borrowing should in fact be entertained only with a respected, trusted and credible business financing advisor who can guide you by the roadblocks and pitfalls of any commercial financing arrangement. Missteps in business financing can rule to long term negative effects around such issues as being locked into a facility, giving up too much collateral, or being locked into pricing that isn’t commensurate with your overall asset and credit quality.
What are the meaningful issues you should consider when considering such a financing facility? chiefly they are:
-Advances rates on each asset category (A/R, inventory/equipment)
– How is pricing defined (asset based lines of credit and ABL lending is general is more generous in overall facility size, but you should ensure you are only paying for what you use
– Contractual obligation – in a perfect world (we know its not!) you should be focusing on the ability to pay out at any time, or at a minimum with some form of moderate breakage fee
– Ensure that the asset based lending facility, which generally costs more, will allow to you keep or focus on profitability; we use a meaningful amount of time with clients on how that can defer the additional costs of Abl facilities by several different strategies
So whats the bottom line. As always it’s simple – consider asset based lending and an ABL facility as a substantial different for financing your business. Work with a trusted advisor as this kind of financing is generally either mi understood or not too well known in Canada. Be selective in structuring your facility around issues that work best for your firm re benefits derived.That’s substantial business financing sense.