I have a rough idea of what it is. What I like is for someone to step in and post a comprehensive explanation, possibly detailing the several types of ABF services in existence, their advantages and the such. Links would be great, however lengthy they might be. I am REALLY interested in learning further about this subject and would greatly appreciate any help ventured my way regarding this matter.
On a parallel note, what are the advantages of off balance sheet financing?
I have extensively searched the web and have, for all practical purposes, come up empty. Either this is a very obscure subject or I am a very lousy searcher. :rolleyes:
Thanks in advance for your help!
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I’ll do the short version, because I’m lazy and it’s almost 2 AM here
Asset Based (or Backed) Financing means financing based on an asset. Duh, you say. It’s really as simple as that, in general terms. The finance is geared to and/or linked in size to the value of an asset (real estate, machinery, other equipment, a fleet of cars, and sometimes even goodwill).
Off Balance Sheet Financing has the advantage that it doesn’t increase the balance sheet value. Total Liabilities remain the same, and consequently, so are all the usual financial ratios that are used to analyse companies (usually comparing them to peer companies and industry averages).
So, the asset being financed acts as collateral for the amount loaned or can other assets owned by the borrower be collateralized–does this word even exist?-- as well to provide further security to back up the loan? What would be the difference between ABF and a mortgage? They seem pretty similar to me. Is a mortgage a particular type of asset based financing? What other types are they?
I understand there is one called factoring, where the factor buys an accounts receivable invoice at a discount rate, but I failed to grasp how that transaction is backed up by an asset, since there is no loan present.
I have a vague idea of another type of ABF called portfolio finance, but I am not very clear what is it about. Also, I understand that there are other ABF lending operations that consider accounts receivable and/or inventory as a security for the loan. Am I right about that? If so, which are they?
Quasar: Usually this is talked about in the case of medium large business financing. Say, for a smallish example, that you want to start a company which will rent snowplows to the City of Podunk. Podunk needs 20 plows, each $60,000. That’s a lotta simoleons, no? Where are you gonna get the upfront capital? One way is get a contract in place with Podunk that guarantees that if a gazillion conditions relating to the serviceability and utility of the plows are met, Podunk will pay you $300,000 a year for the next ten years. Aha! You now have an asset: a revenue stream that will generate a receivable of $300,000 a year for the next ten years. Suppose you sell pieces of this asset at a discount to various investors: Let’s say you get twenty investors, and sell them each one-twentieth of the revenue stream ($15,000 a year for ten years) for the discounted price of $80,000 each.
You get, upfront, $1,600,000, enuf to buy the plows and maintain them and presumably have some profit left over.
Podunk gets the plows it needs on time and doesn’t have to come up with all the money up front, even though in the long run they pay a lot more (they have to pay the time value of money to someone; this way at least they can call up and bitch at you instead of having to endure snowplow crew maintenance wage negotiations…)
Your investors, assuming all goes well, get $150,000 back for their $80,000 investment.
These are broad general outlines: the legal documents, gurantees, and negotiations usually take months and involve a lot of lawyers and many pages of paper. Of course, the chances of all this getting done are dependent in large part on whether or not you have any prior experience with owning and maintaining a fleet of snowplows, what the interest rate situation in the country is like, and whether it’s politically feasible for Podunk to “outsource” its snowplow needs. But you get the idea.
Nice explanation Auntie Pam. I still have one remaining doubt regarding your example though. What specific type of asset based financing is that? It must be either portfolio finance or sales finance since, as far as my pathetic knowledge goes, both use accounts receivables as a guarantee to ensure the payment of the loan. Could you, or anyone else, clarify this?
After positing so many questions I feel I must give some info back to you guys, as a retribution for your help. So, here it goes: I just found out about another ABF product, called bonded warehouse. What it consists is simply on financing the acquisition of imports (vehicles, equipment, machinery, etc.), with the imports serving as collateral. The stuff being acquired resides in the warehouse until the debtor pays its loan and is allowed to appropriate it. The main advantage is that you don’t have to amortize the debt until you have secured a client to buy whatever you are importing, and are thus ready to take the product out of the bonded warehouse and sell it. This, of course, allows you to manage more working capital to finance your daily obligations.
