What is asset-based lending?

Definition

Asset-based lending is borrowing secured by accounts receivable, inventory, or equipment rather than by general credit. On the books, the advance is a liability, and the pledged assets stay on the Balance Sheet.

You record the amount drawn so the statements show what you owe the lender. The collateral is still yours; it is pledged, not sold.

Cash-basis books still show the cash that arrived when you drew. Accrual books also keep the receivable, the stock, and the owe until each of those accounts moves on its own.

This facility is secured borrowing, not a sale of invoices. The customer still owes you, and you still owe the lender.

Where it shows up

Balance Sheet: Related to the loans secured by those assets.

P&L: Related to interest on the advance.

Cash flow: Increases in the loan, reported cash from financing activities increases.

See also: Borrowing Base · Line Of Credit · Accounts Receivable

When you look at your Balance Sheet, the owe usually sits as a Line Of Credit in current liabilities. The receivables, inventory, or equipment that secure it remain in the asset sections.

When the drawn balance is high, more of the facility is in use against that collateral. When the drawn balance is low, you have repaid, or you have not needed the advance.

The profit and loss statement does not list this facility as a line. Interest on the amount outstanding hits the Income Statement; the unused room under the cap does not.

On the Statement of Cash Flows, a draw is a financing inflow. A repayment is a financing outflow, and collections on the pledged invoices are still operating cash.

A Borrowing Base is the eligible pool that usually caps how much you may draw. A Borrowing Base Certificate is the report that proves that pool each period.

How it works

The owe gets onto the books when you draw. You debit cash and credit the loan, just as you would on another revolving line, with the extra step that the lender is looking through to pledged assets.

That entry does not wait for the customer to pay. The cash is yours to use, and the receivable stays yours until the customer pays you.

Stay with this facility: it is the secured borrowing. The Borrowing Base is only the cap, and Invoice Factoring is a different event because that path sells the invoice.

Interest is charged on the amount outstanding, not on the unused room. A Covenant can also require a timely certificate, a minimum coverage ratio, or a clean aging.

When the customer pays, you collect as usual and the receivable comes down. The loan does not come down until you send a repayment to the lender, which shops often do as collections come in.

When you repay, you debit the loan and credit cash. The pledged assets are still on the books unless you sold the stock or collected the invoice in the ordinary course.

Reconcile the loan to the lender statement and to the certificate's outstanding line. A draw that was never recorded will leave cash high and this liability too low.

On cash-basis books the cash still moves on the draw and the repayment. The pledged receivables may be less visible if the shop only watches the bank balance.

Example

An auto parts distributor has a $100,000 facility secured by receivables and inventory. This period the Borrowing Base is $70,000, and the distributor draws $40,000 to pay a supplier.

The distributor records:

Debit: Cash $40,000

Credit: Line of credit $40,000

Cash goes up by $40,000, and the loan goes up by $40,000. The receivables and the inventory do not move, because they were pledged, not sold.

The Balance Sheet now holds the $40,000 owe in current liabilities, still below the $70,000 cap. The Income Statement does not show a $40,000 expense; interest will accrue only on the $40,000 drawn.

When customers later pay $15,000 of those invoices, cash from collections is operating cash. The loan stays at $40,000 until the distributor remits a repayment.

Common mix-ups

Asset-based lending is not Invoice Factoring. Factoring sells the invoice; this facility borrows against it, so the receivable stays yours and the advance is a loan.

This facility is not the Borrowing Base. The base is the eligible cap; this facility is the secured borrowing that cap is allowed to support.

This facility is not unsecured general credit. The lender is looking through to receivables, inventory, or equipment, not only to the shop's overall promise to repay.

Related terms

• Borrowing Base: The pool of receivables and inventory that determines how much a lender will advance.
• Line Of Credit: A revolving loan the business can draw on and repay as cash needs change.
• Invoice Factoring: Selling receivables to a third party for immediate cash at a discount.
• Accounts Receivable: Money customers owe the business for goods or services already delivered.
• Inventory: Goods held for sale or used to produce goods for sale.
• Covenant: A condition in a loan agreement the borrower must keep meeting.
• Borrowing Base Certificate: The periodic report submitted to a lender proving eligible collateral.
• Interest Expense: The cost of borrowing recorded for the period.