Credit-Strapped Small Firms Turn to Asset Based Loans

Small business owners who can’t get the cash they need from traditional banks are turning more frequently to asset based lenders. Smalls with no proven credit record can still get financing on the basis of their accounts receivable, existing inventory, equipment and even invoices. Unlike factoring, in which receivables are actually sold to another firm at a discount, in asset based lending, the business holds on to its receivables and repays the loan when it collects on them. That can be a lifeline in today’s tight credit markets, with banks not willing to take many chances.

But asset based loans do come with a few hitches. For one, borrowers pay higher costs. That’s because lenders must hire outside monitors to scrutinize a firm’s balance sheet. Then they pass on the expense in the form of higher interest than from traditional loans. Plus borrowers are required to submit business plans that show projected sales and future steady growth. “There is a lot more due diligence involved,” says Andrej Suskavcevic, CEO of the Commercial Finance Association. “The process to approve the loan is more rigorous.”

Asset based loans still represent only a small slice, about 5%, of the commercial lending market. But they represent a higher share of lending by small firms. The market grew 8% to hit nearly $600 billion in 2008 and is likely to hit $700 billion by 2010.

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Companies considering asset based lending should seek out finance companies that specialize in their industry. “There are some companies selling snake oil,” warns Marilyn Landis, president of Basic Business Concepts, Inc., a Pittsburgh based financial services consulting firm. She suggests looking through trade journal advertisements and talking to customers, suppliers and even friendly competition. Before making any final decisions, ask the lender for referrals from previous borrowers.