BUSINESSWEEK ONLINE : AUGUST 28, 2000 ISSUE
FINANCE Commentary: The Trouble with Asset-Based Loans Finova, Conseco, and Aegon put their asset-based lending units on the block, citing falling profits and loan losses History shows that in good times, banks, eager to make more and more loans, extend credit to increasingly risky borrowers. When the economy begins to go south, these loans follow and the banks get hit hard. One segment that often leads that cycle is so-called asset-based lending. And right now, early warning signs are flashing red. Typically, asset-based loans are made to companies with off-putting financials, such as high leverage or recent losses, but yield up to 25% higher than traditional commercial loans. Traditional loans are backed by cash flow from ongoing operations. The collateral for asset-based loans, however, is the assets of the company if it were liquidated--assets such as plants, equipment, or accounts receivable. The industry is booming--last year asset-based loans outstanding grew 15% to $294 billion, according to the Commercial Finance Association. And 1999 was the eighth consecutive record year for asset-based lending. 'BIDDING WAR.' Although that represents just a small fraction of all commercial loans outstanding, competition in the business may have reached an unhealthy level. Some players are writing foolhardy loans to get business, say some veteran lenders. ''There's been a bidding war in terms of credit and pricing,'' says Gerald Grossman, president of Business Lenders LLC, a subsidiary of New York-based Medallion Financial Corp. The pressure has already edged out players as falling profits and loan losses make the business less attractive. Finova Group, Conseco, and Dutch insurer Aegon put their asset-based lending units on the block this year. To date, no one's buying. On July 24, Aegon took its unit off the market, citing ''general weakness'' in the commercial finance business. Both General Electric Capital Corp. and Bank of America Corp. quietly shut down small asset-based lending units in recent months. The Office of the Comptroller of the Currency says it isn't worried--yet. But in March, the federal agency, which watches bank lending standards, put out guidelines for banks that make these loans, fearing that inexperienced newcomers could run into problems in asset-based lending. Says David D. Gibbons, the OCC's deputy comptroller for credit risk: ''If you do it well, losses are low. If it's not done well, it gets ugly.'' For example, Bank of America, First Union Corp., and GE Capital participated in a $115 million asset-based loan to Crown Simplimatic, a Lynchburg (Va.) bottling equipment manufacturer in April, 1997. On June 9 of this year, Crown declared bankruptcy. The lenders will need to write off a total of $30 million to $50 million, competitors estimate. Bank of America, GE Capital, and First Union declined to comment on the loan. So far, bank exposure to these loans isn't a ''glaring'' problem that the OCC is worried about, Gibbons adds. But these signs of weakness could be just the beginning. Asset-based lending activity weighs heavily in the Old Economy, where warnings of a slowdown are strongest. Housing demand is waning, while construction figures are off and are not expected to improve. BEEFING UP. Already, some industries in which asset-based lending is common are on the brink of hard times. A combination of rising gas prices and a shortage of truck drivers, for example, is pummeling earnings in the trucking industry, putting some loans at risk. More bad news is pending, say lenders, because of a glut of used trucks that are about to be put up for sale, undermining the value of the assets. Still, some banks aren't letting up. Citigroup Inc., for instance, beefed up its commercial finance unit with the acquisition of Copelco Capital Inc. on Apr. 18. Since then, the Mahwah (N.J.)-based leasing and financing company has been actively courting business in the trucking sector, competitors say. ''I'm very surprised that they're as aggressive as they are,'' says John Burr, president of CIT Group Inc.'s North American trucking and construction group. ''I'm not sure the timing is right.'' Citigroup says that the acquisition of Copelco is part of an expansion to serve business clients. The asset-based business is nothing new for the bank, says Sal Maglietta, head of Citigroup global equipment finance. In fact, the bank has been in the equipment and truck finance business for 30 years and has had ''outstanding'' portfolio performance, he says. Perhaps. But if the economy should slow significantly, banks who were overeager to expand their asset-based portfolios may find themselves with a lot of bad loans on their books. By Heather Timmons Timmons writes about banking. _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ BACK TO TOP					INTERACT E-Mail to Business Week Online

Copyright 2000-2009, by The McGraw-Hill Companies Inc. All rights reserved. Terms of Use   Privacy Notice