Once considered the financing method of last resort, especially for distressed companies, asset-based lending has emerged as a structure of choice for companies of all sizes across a wide range of industries.

Today, an ABL is no longer just an attractive alternative in challenging times when cash flow is strained but is also a practical financing method during “good times.”

ABLs work cooperatively with commercial banks. The goal of an ABL is helping client companies regain financial stability so they can return to conventional financing as soon as possible, on some occasions within one year.

A key aspect of an asset-based lending agreement, where the financier provides a borrowing base loan secured against the borrower’s receivables, is to include provisions that relate to dominion of funds, also known as “lockbox.”

The term “dominion of funds” is used to describe the mechanism where proceeds of receivables collected into a borrower’s deposit (collection) account are swept by the financier and applied to the loan balance. This is different than allowing those funds to be transferred to the borrower’s general deposit accounts for its own discretionary uses.

Dominion of funds provides obvious benefits for the financier since they will usually have taken control over the proceeds of those receivables when making the loan. At the same time, by virtue of the loan being repaid using those proceeds, the financier’s exposure at any time is more closely aligned with the value of unpaid receivables.

In turn, the borrower should not be significantly inconvenienced by the application of the proceeds to the loan, as this will free up availability, pay down the loan balance – reducing borrowing costs – and permit the borrower to advance further amounts providing there is sufficient borrowing base availability.

Dominion of funds may be in place from day one of the agreement or may be triggered on a springing basis (see below), depending on the commercial agreement between the financier and the borrower.

Another common feature built into ABLs is “springing dominion.” With this feature, if the borrower exceeds a certain level of borrowing base availability, say 15%, as its A/R is converted to cash, the borrower retains control over its A/R conversion. It’s only when availability drops below that threshold that the proceeds are governed by “full dominion” and are automatically used to pay down the outstanding revolving loan balance.

If the loan is a “springing dominion” transaction, then typically, so long as the level of the outstanding debt is lower than the borrower’s available credit under the asset-based lender’s loan facility or less than the borrowing base, the payments may be sent to and collected in a lockbox and swept to a deposit account controlled by and accessible to the borrower. 

In a “full dominion” asset-based loan, the payments that are paid into the lockbox account are applied to repaying the outstanding balance owed on the loan as the payments are received daily.

These types of dominion stipulations can be at the heart of any workable ABL, allowing both the financier and the borrowing company to work together in a relationship that ensures protection for all the parties involved and promotes economic success, whether in good times or challenging ones.

Ultimately, this is done with the aim of returning the ABL client to the traditional commercial lending sector. 

Generally, business owners and their management teams benefit from dominion of funds and borrowing base reporting protocols as it exposes a business’s true operating cash flow. When embraced, dominion of funds provides a highly useful management tool.