UK asset-based lending

Asset-based lending (ABL) is increasingly becoming an attractive form of finance for many UK companies in the midst of management buyout (MBO) activity, M&A and even turnarounds. Perhaps the key to this growth is that the ABL route offers many restructuring companies a greater chance to tap higher levels of funding than their traditional cash flow lenders would ever support.

Like any concept that on face value seems straightforward, ABL may seem like a simple option for cash-hungry borrowers. The availability and volume of ABL is influenced by many factors which are not likely to dry up the market, but which reflect the intense scrutiny that goes along with higher funding levels. Chiefly trends in macro economics play an important role.

Changes to the UK Insolvency Act

One of the most pressing pipeline concerns for the small but focused ABL market in the UK is how the UK government will go forward in drafting amendments to the Insolvency Act. “The Insolvency Act, which became statute a few months ago is fine and less threatening to us as a lender than if it had gone through at its initial stages,” said Paul Hancock, at Bank of America Capital in London. The centre-left administration in the UK plans to change the way insolvency is administered, closer to a continental European model. But for asset- based lenders this could prove harmful to their business. Centre to their ability to lend is their knowledge that they will have a strong and priority role in recovering funds from a newly insolvent company.

The impact of amendments to the UK Insolvency Act could mean that banks and financiers would have to consult more with the companies into which they have lent, before any retrieval processes could be implemented. Also, a move to a more European approach would propose including statutory periods of protection. Such measures are not expected to dampen totally the supply of ABL, but the sense of exasperation is clearly visible among what is essentially a fledgling market in the UK.

A spokeswoman for the UK Treasury in London confirmed that consultation papers are doing the rounds but no amendments to the Act are foreseen in this parliamentary session. A general election in the UK is expected as early as this spring.

In his other role as vice-chairman of the FDA in the UK, Hancock explained that the organisation is stating its strong opposition to a move to adopting European-type policies. Should there be any changes to how insolvency is treated in the UK, asset-based lenders would be forced to scrutinise potential new business with greater due diligence, he explained.

US influence

While ABL has been an option for UK companies for much of the 1990s, it is only really since 1997 that the market matured enough to develop the product sufficiently to make it a fully-fledged alternative to traditional banking options.

The handful of ABL players in the UK largely have reporting lines into their US parents, bank or finance institutions. The principal players are Bank of America Capital, Burdale Financial (a subsidiary of First Union), GE Capital Commercial Finance, Gemac and Lloyds TSB Commercial Finance. Essentially, strong links with the US the birthplace of the main ABL market in the world are helping to mould the approach in the UK.

While it is certainly understandable that the US experience is an invaluable benchmark, some finance commentators think that it can be dangerous to make too many literal comparisons. With multi-billion dollar amounts of outstanding ABL loans in the US, the market surely has lessons to share. With concerns rippling through the US over the nation’s economic health, some ABL players are suggesting that their US parents would be ready to tighten their reigns.

Concern over a slowdown in the US economy is high on the macro-factors agenda. Although International Monetary Fund managing director Horst Koehler said in mid-January that there is less than a 50 per cent chance of a US economic recession, financiers are not playing wait and see.

“As part of GE Capital, we will always keep a close eye on macro economic factors such as interest rates and exchange rates,” said Ian Jamieson, sales and marketing director at GE Capital Commercial Finance, which is based in Tunbridge Wells, in south east England. In fact, the GE Capital machine is well known for its microscopic attention to the slightest of financial fluctuations. With its worldwide coverage of many different industry sectors, GE Capital is renowned for its strong ability to lend funds from a position of knowledge. GE Capital plays a large manufacturing role also, ranging from plastics to commercial aircraft engines.

UK ABL deals on the increase?

Cautious awareness and market intelligence are central to any financier’s approach including the ABL market. But macro economic concerns are not slowing down the amount of ABL deals in the UK. “What you’ll see over the next few months is the much greater availability of ABL in the UK than there was three or four years ago,” said Hancock.

This market outlook is shared by Lloyds TSB Commercial Finance commercial director John Jenkins. “The educational phase that started a few years ago [for ABL] is starting to bear fruit. The more deals that get done, the more awareness there is.”

Jenkins, who is based in London, said that Lloyds TSB Commercial Finance the only UK clearer active in the ABL market is seeing some companies returning to use ABL for a second time. “Once you’ve done an MBO for example, you’re more likely to do another,” he said. “Once they’ve crossed the shadowy threshold, companies tend to be more used to the concept.” As the only UK player in the UK ABL market, Jenkins said that Lloyds TSB Commercial Finance is not so motivated by the threat of trans-Atlantic macro economic changes.

Bank of America Capital’s Hancock said that the last six months has brought some change in terms of how his organisation approaches some elements of ABL. “Turnarounds do have to have compelling reasons for us to do them at the moment.” His organisation is focusing heavily on assumption testing, especially where a deal might include a turnaround of 30 per cent to 40 per cent of the total debt. Bank of America Capital has always examined a sizeable number of turnaround propositions for its ABL business.

Although this riskier finance option may not be so readily available, the present state of businesses in the UK is very promising, said Hancock. The third quarter results in 2000 for UK business were the highest of any quarter for the last seven years.

While there are anecdotal accounts of how some users of ABL discovered the product through simply surfing the Internet, a good chunk of deals are developed by the professionals working with the companies looking for finance solutions. Namely, accountants, lawyers and private equity houses. “This market tends to be driven by professionals,” said Jenkins. Jamieson supports this view: “We get the vast amount of our introductions from accountancy firms, venture capitalists and management consultants.” The role of the media, business organisations and indeed, word of mouth is playing a vital role. In addition, there is some migration from traditional banking departments as the financial health of companies becomes better. Many ABL players in the UK are seeing clients who would have previously been referred to their bank’s workout departments now turning to them.

Also, what is profoundly clear is that even with a relatively small market of players, competition for deals is incredibly intense. Margins appear to be quite standard across the board ranging from around 1.5 per cent to 3 per cent over the base rate. So it is here, if an ABL player can work it that they will fall back on their reputation and market presence. In fact, “reputation” and “deliverability” are quickly being adopted as key buzz words.

Jenkins from Lloyds TSB Commercial Finance and Jamieson from GE Capital Commercial Finance are two people who both benefit from their respective companies relatively strong regional presence which makes the whole communication process that much easier. GE Capital Commercial Finance has nine offices in England and Wales while Lloyds TSB Commercial Finance has 12 UK offices. “Our belief is that we need to be part of the local communities,” Jenkins added. But like actors who are judged more or less on the quality of their last role, ABL financiers have to maintain a high level of deliverability.

Deals coming to the ABL market

A quick look at some of the types of deals completed in 2000 gives a useful snapshot of how ABL is being used by the UK business community. While no two deals are ever going to be the same, the trends are indicative.

Among Bank of America Capital’s completed deals last year was a GBP31 million facility for Jeldwin, a distributor of doors, kitchens and windows. The US Jeldwin bought its two main UK trading arms Boulton and Paul and John Carr Doors from the Rugby Group. The deal comprised refinancing the acquisition and also vendor notes. It was a mix of revolving credit against debtors and stock and a term loan secured against plant, machinery and real estate.

In a different industry sector, namely for a telecoms recruitment company called Dataworkforce Ltd, GE Capital Commercial Finance arranged a GBP12 million ABL package. The company provides staffing solutions for the main telecos across the world and was presented with the Fastest Growing UK Company Award’ by the Enterprise 100 Entrepreneur List in 2000. The deal was arranged to help the company expand. Dataworkforce discovered ABL through surfing the Net.

One of the deals completed by Lloyds TSB Commercial Finance in 2000, for Birmingham-based manufacturer of engineering laminated plastics Tufnol Ltd, involved the management buyout by start-up Tufnol Holding Limited, for an undisclosed sum. The finance provider arranged combination finance of a property loan and invoice discounting facilities for UK and overseas sales. The MBO deal was introduced to Lloyds TSB Commercial Finance by Invex Partners.

ABL may be niche and may only work for a selected amount of companies. If a company can raise all the funds it needs from traditional banking sources through cashflow funding, the chances are that they will not need to use an ABL product. But for those companies in the process of restructuring for growth or away from financial difficulties, ABL looks likely to herald a viable alternative finance solution. If the US example translates comparably into the UK experience, it may not be long before the finance structure evolves out of it present niche.