FREE SUBSCRIPTION Includes: The Advisor Daily eBlast + Exclusive Content + Professional Network Membership: JOIN NOW LOGIN
Skip Navigation LinksHome / Articles / Read Article


Generating Liquidity Through Collateral: Strategies to Optimize Value During Restructuring

Date: Jul 09, 2024 @ 07:00 AM
Filed Under: Risk Management

For business leaders, the corporate restructuring process may seem overwhelming. While there is much to consider, banks and nontraditional lenders can take several steps to help their borrowers optimize the value of their collateral and generate liquidity that supports financial—and operational—transformation while maintaining a sufficient loan to value ratio.

Companies often have several types of tangible and intangible assets, ranging from manufacturing equipment to rolling stock and accounts receivable, that can be collateralized to secure funding necessary to not only weather a restructuring, but also invest in promising new product lines and capital expenditures needed to help the business grow. Executives, however, need to be careful to develop a thoughtful strategy with their lender to optimize the liquidity they can receive from collateralizing their assets and be apprised of how to mitigate risk and avoid financial and legal issues throughout the process.
Determine the value of accounts receivable and accelerate collection.

Understandably, many companies that are struggling with a lack of liquidity often find that they have customers that are behind on payments, making these accounts receivable ineligible to borrow against in most cases.
The key for companies looking to collateralize their accounts receivable is to determine the value of the past due accounts receivable and to what degree, if any, payment is possible. Often, existing customers are more likely to pay their past due accounts compared to those that have transitioned to a new supplier. In addition, it is helpful to analyze the length of time an account balance is overdue and prioritize obtaining payment from those accounts prior to them becoming ineligible to borrow against.

Finance leaders should also try to determine how critical of a supplier they are to a past-due customer. Companies that are the sole supplier of a critical component can hold shipments until past due accounts are paid or force the customer to pay on cash on delivery (COD) terms. Borrowers should also be apprised of the fact that the value of accounts receivable owed by state, local, or the federal government are excluded from the eligible accounts receivable base under certain circumstances. This is especially true if the customer is in a state that is struggling financially and has a history of taking extremely long to pay their bills.

In some instances, companies seeking to collateralize their accounts receivable can accelerate payment by offering discounts to past-due customers. Companies seeking to do this, however, must ensure they are not negotiating against themselves and undercutting the amount they can recover from past-due accounts. To maximize the amount recovered, and ultimately, to maximize the value of assets that can be collateralized, companies can retain outside professionals to help them prioritize which overdue customers they should approach, and how best to do so.
Considerations when collateralizing equipment and rolling stock.

Another common group of assets that can be collateralized to generate liquidity includes a company’s manufacturing equipment and rolling stock. Traditional banks and nontraditional lenders should ensure that a potential client is aware that updated appraisals of the equipment and vehicles being put up as collateral are typically necessary before the lender will extend financing.

It is paramount for companies seeking funding to understand that they cannot pledge equipment that has been used to secure other debts. Furthermore, when collateralizing assets such as vehicles and other titled assets, companies should be aware that they must possess all of the physical titles and that they are or will be free and clear of existing liens.

It is critical for companies to know that they must carry sufficient insurance on the assets they are pledging as collateral and understand that the lender may need to be listed as the loss payee. Lenders often underscore how insurance, including business interruption protects companies against loss if equipment requires repair or is damaged by a natural disaster or building issue and that these events are not uncommon.
How to ensure a smooth relationship

In a macroeconomic environment dominated by overall uncertainty, high interest rates, and rising defaults, lenders should be transparent that there may be the potential for a higher degree of scrutiny during the due diligence process compared to the past.

Borrowers should be aware that lenders have legal recourse when faced with a loan default and that in extreme cases, when a borrower fails to repay, secured creditors can foreclose on pledged collateral and monetize it or file a lawsuit and petition the court for the appointment of a receiver.

Once financing is extended, lenders often need to continue communicating with borrowers to ensure they are complying with the terms of their new loan and prepare for any costs associated with meeting those new loan requirements, such as regular appraisals of collateral that has been pledged.

Overall, establishing and maintaining regular, honest communication is also vital to a mutually beneficial and successful borrower-lender relationship. Communication is essential, for example, when a lender discovers that the value of pledged collateral decreased more than originally projected during the credit due diligence process or when financial performance trails expectations. In these cases, outside restructuring professionals can be retained to assist the borrower prepare updated financial projections and to help the borrower and lender arrive at new covenant levels that are more in line with reality.

Restructuring can be an overwhelming process, especially for executives at small- and mid-sized privately held companies unfamiliar with the intricacies of the process. That is why lenders and outside professionals often play a critical role in helping companies to understand what to expect and how leveraging assets to generate liquidity at a critical time can support their restructuring.

Sandor Jacobson
Restructuring and Transformation Partner | Plante Moran
Sandor Jacobson, CPA, restructuring and transformation partner at Plante Moran, collaborates with mid-market companies, across industries, facing difficult financial decisions. With deep experience in the full range of restructuring specialties, ranging from cash flow projections to liquidity management, profitability improvement, and insolvency, he brings a professional and compassionate mindset to each engagement. Jacobson has a bachelor’s degree from the University of Texas at Austin. He also attended Northwestern University, where he focused his studies on accounting.
Comments From Our Members

You must be an Equipment Finance Advisor member to post comments. Login or Join Now.