Asset-backed lending in its simplest form is a type of lending where the loan is secured by an underlying asset. Matthew Ledvina is a director for a fintech company in London which focuses on asset-backed lending.
With financing such as venture capital, for example, the terms of the deal are not always that important as the outcome is binary – it either works or it doesn’t. With credit things are very different and the structure of the deal is essential for success.
Why Use Asset-Backed Lending?
There are various reasons why companies may opt to use asset-backed lending. It could be that the business is unable to demonstrate it can make the loan repayments through its cash flow. Interest rates on secured loans are typically lower than on unsecured loans, so it could be a financially sound decision. Asset-backed lending might be used to secure funding for a time-sensitive project such as an acquisition or merger.
Companies may also use it because the cost is too high to issue bonds or shares in the capital markets. For any of these reasons, the company may choose to put some or all of its assets forward as collateral to secure a loan, with loan approval based on the value of the assets. Generally speaking, the more liquid the assets the higher the ratio of loan to value.
Traditional Asset-Backed Lending
Companies seeking financing through traditional facilities for asset-backed lending may find that their loans are held in an SPV. An SPV is a Special Purpose Vehicle (or entity) that is ‘bankruptcy-remote’. This means that assets are held off-balance sheet, securitised and isolated in a specialised subsidiary company. The obligations of the SPV are secure due to its asset and liability structure, even if the parent company goes bankrupt.
An online lender can make a loan to a company based on that loan being backed by assets. That loan can then be sold into an SPV that the lender manages. This SPV holds all the loans as well as the obligations of the borrowers to repay both the initial loan amount and the agreed interest. Investors then lend money to the SPV, with their investment being secured by the total package of loans and assets it contains.
Forward Flow Agreements
Another way funding can be raised through online lending platforms is with a forward flow agreement. This is where a loan is made to a borrower by an online lending platform, and then the loan is sold on to a third party, meaning the borrower now owes both the loan amount and the interest to the third party. The third party would compensate the initial lender in some way for going to the trouble of securing the loan in the first place. This could be through a servicing fee, an origination fee or excess income.
Forward flow agreements can be beneficial to online lenders as they still make profit but once the loan has been passed on they are no longer exposed to the risk of borrower defaults. Forward flow agreements can also be beneficial to investors for customising and optimising a loan portfolio.