Unlock Your Business Assets: Why ABL Facilities Outperform Traditional Loans

ABL Facility: Asset-Based Credit Facilities

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Believe it or not, Business credit line solutions come with choices.

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One choice is the ‘ ABL ‘ revolving credit facility, the cornerstone of ‘ Asset Based Lending ‘ in Canada. Why do Canadian business owners and financial managers choose this finance solution? It’s all about credit facilities versus term loans or debt solutions. Let’s dig in.

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What assets qualify for an ABL facility?

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Most ABL facilities accept accounts receivable (typically 70-90% advance rate), inventory (usually 50-65%), equipment (typically 50-80%), and sometimes real estate as collateral assets.

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How quickly can funding for ABL facilities be arranged?

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Most ABL facilities can be established within 3-6 weeks, significantly faster than traditional bank loans. Funding is available immediately after set-up.

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Do I need strong credit scores to qualify for an ABL facility?

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Asset quality and value precede credit scores in ABL facilities, making them accessible to businesses with less-than-perfect credit histories.

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How does an ABL credit facility differ from factoring?

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Unlike factoring, where you sell receivables, ABL facilities use receivables as collateral for a revolving line of credit. This allows you to maintain customer relationships, and often at lower costs.

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HOW CAN YOUR FIRM USE AN ABL ASSET-BASED CREDIT LINE / ASSET-BASED LOAN

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The key to understanding ABL credit is understanding the differences between other financing options and how they are used in various circumstances.

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While most companies seeking this credit line asset financing method qualify, it’s important to understand how the facility is structured versus a term financing solution. Understanding asset-based lending is crucial for businesses when deciding on financing options.

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ASSET-BASED LOANS ARE ' COVENANT LIGHT '

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One of the main good news pieces in ABL revolving credit lines is that they are ‘covenant light’;

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Business isn’t always good news, though. Some aspects of this type of borrowing include typically higher borrowing costs and the need to provide more ongoing reporting information around ‘assets.’

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Unlike cash flow loans, which often have strict covenants, ABL loans offer greater flexibility.

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WHAT IS THE DIFFERENCE BETWEEN BANK FINANCING AND ASSET-BASED FINANCING

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A good way to define the difference between asset-based credit lines and traditional Canadian chartered bank solutions is to understand that one is very ‘ asset-based.’

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At the same time, the other is very ‘cash flow lending’ based, the latter being the bank offering. That ongoing focus on borrowing on all your assets under one facility distinguishes the asset-based revolver. Rightly or wrongly, our banks don’t look at it that way.

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QUALIFYING FOR ASSET-BASED LENDING

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In almost all cases, asset-backed lenders have much more ‘ asset ‘ expertise, which one top expert calls ‘ predictable ‘ financing based on sufficient assets and sales for more credit availability.

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Where banks look at historical, present, and future cash flows, the asset-backed credit lender looks at the borrowers assets such as accounts receivables, inventory, and fixed assets, and physical assets such as real estate appraised value , which all form the substance of your credit line and cash flows -? and at a much higher loan to value ratio!

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WHY DOES ABL MAKE GOOD FINANCING SENSE

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Asset-based lending (ABL) makes good financial sense for businesses that require flexible and accessible capital to manage their cash flow, invest in growth opportunities, or navigate challenging market conditions.

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ABL provides a unique financing solution that leverages a company’s assets to secure funding rather than relying solely on creditworthiness.

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This approach allows businesses to tap into their existing assets, such as accounts receivable, inventory, and equipment, to access the capital they need to drive growth and success.

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Businesses can benefit from ABL's more flexible and responsive financing solutions, which are tailored to their specific needs.

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ABL lenders focus on the value of the assets used as collateral rather than the company’s credit score or financial history. Businesses with significant asset value but limited credit history or cash flow can still access the funding they need to achieve their goals.

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Types of Assets Used as Collateral

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ABL lenders consider a wide range of assets as collateral, including:

• Accounts receivable: Outstanding invoices and payments due from customers.
• Inventory: Goods and materials held for sale or in production.
• Equipment: Machinery, vehicles, and other equipment used in the business.
• Real estate: Commercial properties, such as office buildings, warehouses, and retail spaces.
• Intellectual property: Patents, trademarks, copyrights, and other intangible assets.

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The value of these assets determines the borrowing base, which is the maximum amount that can be borrowed against the collateral.

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Borrowing Base and Advance Rates

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The borrowing base is the total value of the assets used as collateral, determining the maximum amount that can be borrowed. The advance rate, also known as the loan-to-value (LTV) ratio, is the percentage of the borrowing base that can be borrowed.

For example, if the borrowing base is $100,000 and the advance rate is 80%, the maximum amount that can be borrowed is $80,000.

Advance rates vary depending on the type of asset and the lender. For example:

• Accounts receivable: 70% to 90%
• Inventory: 50% to 70%
• Equipment: 80% to 90%
• Real estate: 60% to 80%

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How Asset-Based Lending Works

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ABL works by using a company’s assets as collateral to secure funding. The lender evaluates the value of the assets and determines the borrowing base, which is the maximum amount that can be borrowed.

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The borrower can then draw down on the loan as needed, using the assets as collateral. The lender monitors the value of the assets and adjusts the borrowing base accordingly.

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ABL lenders typically require regular reporting and monitoring to ensure that the borrower meets their obligations and that the assets are being used as intended.

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Cash Flow Management with ABL

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ABL can effectively manage cash flow, providing businesses with flexible and accessible capital to meet their financial obligations. By using ABL, businesses can:

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• Manage seasonal fluctuations in cash flow
• Invest in growth opportunities
• Navigate through challenging market conditions
• Meet unexpected expenses or opportunities

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ABL lenders typically offer flexible repayment terms and competitive interest rates, making it easier for businesses to manage their cash flow and achieve their financial goals.

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By leveraging their assets to secure funding, businesses can improve their cash flow management and achieve greater financial flexibility.

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WHY DOES ABL MAKE GOOD FINANCING SENSE

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The best example we can give clients of why an ABL credit line revolver makes sense is that growing sales place huge pressures on working capital investment. The result?

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When you need credit line financing the most, it's when bank ratios and operating cash flow ratios limit your company's borrowing!

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By leveraging their assets, businesses can secure financing without relying solely on their creditworthiness. You no longer have to worry about the balance sheet concerning financial covenants imported by banks or other commercial lenders. Talk about a double whammy of bad news.

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The ABL lender will establish a regular ‘ borrowing base ‘ under your credit agreement that allows you to draw down on funds based on sales and assets—that’s a true ABL line of credit facility!

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WHO USES ABL REVOLVING LOAN / LINES OF CREDIT??

SPOILER ALERT: EVERYBODY!

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So who uses Asset-backed financing solutions? Some of the largest companies in the world are just not generally advertised.

However, it is essential to consider the risk of borrower defaults, which can lead to the seizure of collateral.

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For the larger facilities for companies with good credit, ABL solutions pricing is often even better than bank financing, but that certainly doesn’t apply to SME Commercial finance borrowers. Your interest rate will vary based on overall credit quality and credit risk.

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Still, it is safe to say that ABL financing is typically more expensive than bank financing, but it is accessible short-term finance that provides access to capital that otherwise might not be achievable.

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?KEY TAKEAWAYS

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• Asset-based lending facilities provide working capital by leveraging existing business assets, including accounts receivable, inventory, and equipment.
• Funding limits fluctuate based on your qualifying asset values rather than fixed loan amounts, creating more flexible capital access as your business grows.
• Collateral value determines borrowing capacity, making ABL facilities suitable for businesses with strong assets but limited credit history or recent profitability challenges.
• Regular reporting and asset verification replace restrictive financial covenants in traditional financing, offering operational breathing room during growth phases.
• Revolving credit structures allow businesses to draw funds as needed rather than taking on lump-sum debt, optimizing interest costs while maintaining liquidity.
• Seasonal businesses benefit particularly from ABL facilities since borrowing capacity naturally increases during inventory build-up periods when cash is most needed.
• Regular monitoring and reporting help ensure the business's financial health and maintain the collateral's value.

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CONCLUSION

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So, which revolving credit line solution makes sense for your firm, a traditional bank facility or an asset-backed ABL revolving credit line?

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Call? 7 Park Avenue Financial, a trusted, credible and experienced Canadian business financing advisor that can help you make the right choice.

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FAQ

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How does an Asset based facility improve my business cash flow?

ABL facilities immediately convert slow-moving assets like accounts receivable and inventory into working capital, accelerating your cash conversion cycle. Benefits include:

• Elimination of 30-90 day wait times for customer payments
• Ability to take advantage of supplier discounts through improved liquidity
• Reduction in cash flow gaps during seasonal fluctuations
• Enhanced ability to accept larger customer orders without liquidity concerns

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What businesses benefit most from ABL facilities?

Businesses with substantial accounts receivable, inventory, or equipment assets gain the most advantage from ABL facilities, particularly:

• Manufacturing companies with significant raw materials and finished goods
• Distributors with extensive inventory holdings
• Business-to-business companies with substantial accounts receivable
• Seasonal businesses experiencing predictable cash flow fluctuations
• Growing companies needing to fund expansion without equity dilution

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Can an ABL funding help during business transitions?

ABL facilities provide stabilizing capital during various transition periods through:

• Accessible funding during ownership changes when traditional financing may pause
• Flexible capital during restructuring efforts when conventional lenders typically withdraw
• Immediate liquidity for acquisition financing without lengthy approval processes
• Bridge financing during turnaround situations based on asset value rather than recent performance
• Working capital support during rapid growth phases that temporarily strain cash resources

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How do lenders determine my Asset Based Loan facility limit?

Lenders establish your borrowing base through:

• Detailed valuation of qualifying assets including receivables, inventory and equipment
• Application of advance rates to each asset category (typically 70-90% for receivables, 50-65% for inventory)
• Regular reporting and monitoring systems to track asset values
• Periodic field examinations to verify asset quality and valuation
• Adjustments for concentration risks and aging factors

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What ongoing requirements come with ABL facilities renewals?

Managing an ABL revolving facility typically involves:

• Regular reporting of accounts receivable aging and inventory levels
• Monthly borrowing base certificates documenting current eligible assets
• Periodic field examinations by the lender to verify asset values
• Maintaining proper segregation and tracking of inventory
• Following established procedures for managing cash receipts

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What’s the difference between ABL funding and traditional bank financing?

ABL facilities focus primarily on asset value rather than credit history or historical profitability. This fundamental difference creates more accessible financing for:

• Companies with strong assets but limited operating history
• Businesses experiencing temporary profitability challenges
• Organizations undergoing ownership transitions
• Companies in industries with thin margins but substantial assets
• Businesses with seasonal fluctuations that affect traditional financial ratios
• ABL facilities help businesses manage cash flow more effectively by providing flexible access to capital

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Are there disadvantages to using? ABL funding for a credit line?

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While ABL facilities offer significant benefits, potential considerations include:

• Reporting requirements are typically more frequent than for traditional loans
• Field examinations and collateral monitoring create additional administrative responsibilities
• Interest rates may be higher than conventional bank financing for prime-rated borrowers
• Set-up costs can include due diligence fees, appraisals, and legal documentation
• Some lenders require lock-box arrangements for managing collections

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Can startups qualify for ABL facilities?

Most startups face challenges qualifying for ABL facilities because:

• Limited operating history impacts receivable quality assessment
• Inventory levels are typically not yet established or stable
• Asset verification systems may not be fully developed
• Customer concentration often exceeds lender comfort levels
• Internal financial reporting may not meet lender requirements

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How does seasonality affect an ABL facility?

ABL facilities adapt effectively to seasonal business cycles through:

• Automatic increase in borrowing capacity as inventory builds for seasonal demands
• Natural reduction in borrowing as inventory converts to receivables then cash
• Elimination of covenant testing dates that might fall during seasonal low points
• Flexible draw schedules that align with seasonal cash flow patterns
• Reduced pressure to artificially maintain financial ratios during off-seasons

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What happens if my business struggles while using an ABL facility?

During business challenges, ABL facilities typically provide:

• Continued access to capital when traditional lenders might withdraw
• Borrowing capacity based on current assets rather than historical performance
• Fewer default triggers related to financial performance covenants
• More flexibility to work through temporary challenges without immediate facility termination
• Potential for restructuring based on asset values rather than earnings multiples

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CITATIONS /MORE INFORMATION

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1. Deloitte Canada. (2023). "Alternative Financing Trends: The Rise of Asset-Based Lending in Canadian Mid-Market Companies." Toronto: Deloitte Financial Advisory.
2. Canadian Lenders Association. (2024). "Commercial Lending Barometer: Asset-Based Lending Growth in Canadian Markets." Toronto: CLA Publishing.
3. Bank of Canada. (2023). "Commercial Lending Practices and Preferences Survey." Ottawa: Bank of Canada.
4. PwC Canada. (2024). "Working Capital Study: Financing Alternatives for Growth-Stage Businesses." Toronto: PwC Canada.
5. Business Development Bank of Canada. (2023). "Financing Options for Canadian SMEs: A Comparative Analysis of Traditional and Alternative Funding Sources." Montreal: BDC.

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' Canadian Business Financing With The Intelligent Use Of Experience '

?STAN PROKOP 7 Park Avenue Financial/Copyright/2024

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Stan Prokop is the founder of 7 Park Avenue Financial and a recognized expert on Canadian Business Financing. Since 2004 Stan has helped hundreds of small, medium and large organizations achieve the financing they need to survive and grow. He has decades of credit and lending experience working for firms such as Hewlett Packard / Cable & Wireless / Ashland Oil