Collateral Transfer Facilities
What is a Collateral Transfer Facility?
A collateral transfer facility is where a company lends its assets or collateral to a second company, usually for the purpose of obtaining a loan on better terms than they could get without the collateral transfer facility in place.
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How does a collateral transfer facility work?
A collateral transfer facility is where a company lends its assets to a second company. The lending company is the “provider” in the arrangement and the second company that is borrowing assets is the “beneficiary”.
This facility is used by the beneficiary company as “collateral” allowing it to successfully apply for loans or funding. Both the companies are therefore said to be operating within a collateral transfer agreement.
Often a beneficiary will enter into a collateral transfer agreement for one year paying a relatively high rate of interest of that short period. The beneficiary can then take that year to go back to the market and obtain a loan with a much lower interest rate. This loan would be from a bank that would not have lent to them on such good terms before the facility was in place. This lower cost loan is then used to finance the company allowing the beneficiary to end the collateral transfer facility.
Where does the collateral come from?
Bank guarantees usually supply the collateral for the facility which in turn leads to the use of the misleading term “leasing a bank guarantee” or “bank guarantee leasing”. There are specific reasons why this is a misleading term but it is clear that bank guarantees can not be leased in the usual sense of the word, it is merely a term that is used to describe the process to the people from outside the banking industry to whom the concept may be a difficult one.
What are the costs of a collateral transfer facility?
In terms of costs to the beneficiary, they have an obligation to pay the “provider” interest for the facility usually between 12% – 13%. Often the term is for one year however ordinarily the facility can be extended for a further agreed period if required by the beneficiary.
How can you obtain a collateral transfer agreement?
Even though a provider may be a type of company most people have heard of for example a hedge fund or private equity company, the experts that can be relied upon to introduce the beneficiary to the provider are somewhat less known.
This is because they operate in a relatively small market space, and often beneficiaries do not wish to advertise that that they use such services as they fear it could suggest wrongly that they are less credit worthy than they would like the perception to be. This means there are not a large amount of case studies outlining the success of the process.
The key to success is an exit strategy.
The reality is that collateral transfer agreements are an excellent way to leverage better terms from banks and are therefore a great strategy to over the short term.
The key is to understand that there must be an exit strategy from the facility, as extending it for longer keeps the company paying the higher interest rates associated with the facility. Companies should keep in mind that the goal is to obtain a lower interest loan from a bank and exiting from the facility at the earliest opportunity.