Asset financing: what is it?
Asset financing is borrowing money or receiving a loan using the assets shown on a company’s balance sheet, such as short-term investments, inventories, and accounts receivable. The business borrowing the money must grant the lender a security interest in the assets.
Knowledge of Asset Financing
Asset finance differs from traditional financing since it allows the borrower to swiftly obtain a cash loan by offering part of its assets. A more involved procedure involving business planning, estimates, and other factors would be required for a standard financing arrangement, such as a project-based loan. Asset financing is most frequently employed when a borrower needs operating capital or a short-term cash loan. When employing asset finance, the borrowing business often promises its accounts receivable; nevertheless, it is not unusual to use inventory assets in the borrowing process (a practice known as warehouse financing).
The Distinction Between Asset-Based Lending and Asset-Financing
While having little distinction, asset finance, and asset-based lending fundamentally relate to the same thing. When a person uses asset-based lending, the house or automobile is used as security for the loan when they borrow money to purchase a home or a car. The lender may seize the automobile or the property and sell it to recoup the loan’s balance if it is not returned within the allotted period. If this happens, the loan goes into default. The same idea holds for companies purchasing assets. When someone uses asset financing, additional assets to help them qualify for a loan are typically not treated as direct security for the loan’s principal.
Businesses frequently employ asset finance because they like to borrow money against their existing assets. Collateral for a loan may include receivables, stock, machinery, and even buildings and warehouses. These loans are typically taken out to cover short-term financial requirements, such as funds to cover staff wages or buy the supplies required to make the products sold. As a result, the business is utilizing its existing assets rather than investing in new ones to cover a shortage in working capital. However, if the business defaults, the lender may still seek to reclaim the loan amount by seizing and selling assets.
Asset Financing: Secured and Unsecured Loans
In the past, asset finance was typically seen as a last-resort method of financing, but over time, the stigma associated with this source of capital has diminished. This is particularly true for small businesses, startups, and other businesses that don’t have the track record or credit score necessary to get approved for alternative funding sources.
Two different kinds of loans can be granted. The most common kind is a secured loan, in which a business borrows while guaranteeing an asset to cover the obligation. Instead of examining the company’s overall creditworthiness, the lender takes into account the value of the asset that has been pledged. Lenders can take possession of pledged assets if loans are not repaid. Unsecured loans do not expressly include collateral, but if repayment is not made, the lender may have a broad claim on the company’s assets. Secured creditors often obtain a larger percentage of their claims in bankruptcy. As a result, secured loans typically have lower interest rates, making them more alluring to businesses in need of asset finance.
- A business can obtain a loan through asset financing by surrendering balance sheet assets.
- Typically, asset financing is utilized to meet a momentary cash flow requirement.
- Because the funding is based on the assets rather than the bank’s assessment of the company’s creditworthiness and future business prospects, some businesses prefer asset financing over traditional financing.