Tips For Account Receivable Pledged As Collateral

Accounts Receivable, commonly used to secure lines of credit, are normally presented as a list of trade customers or clients that owe trade debts to an entity indicating amounts owing and the number of days they have remained unpaid.

A line of credit is generally revolving credit secured by accounts payable and inventory that are monitored constantly. If collateral shortfall occurs, other fixed assets including real estate may be taken. The primary source of repayment is debt collected in the normal course of business. If one takes accounts receivable as collateral, one should mitigate the risk by excluding some of the accounts, such as intercompany accounts, from the list and examine the possibility of the following risks;

• An insincere borrower may collect receivables and fail to remit to the lender, thus causing the line of credit to eventually max up. Lockboxes or direct remittances to the lender may tone down this risk.

• An unscrupulous borrower may concoct accounts in order to obtain more funds. Periodic random sampling of debtors by the lender, ensuring that invoices are authentic and validating balances with debtors may help

• If the borrower has mutual contra accounts with its customer, there is the likelihood of offsets to take place without the lender's knowledge. Ensure to notify such customers of the existence of your assignment of the receivables.

• Some goods may be "sold" on consignment basis, that is, the goods are placed in the hand of another, but the consignor retains ownership until the goods are sold or returned. Such goods should be identify and the terms of consignment examined carefully because unsold goods may be returned to the consignor.

• At times a customer may make counterclaims or dispute amounts owing several weeks after the receivables aging list is compiled. Consider the frequency of such occurrences and discount the loan amount accordingly.

• Look out for hidden liens arising from suppliers and other sources as liens may dilute your collateral. For example, if the borrower has a tendency of not paying taxes, an IRS lien may disrupt operations and put your loan at risk.

• Look at the frequency of returned goods and your clients policy on returned goods because a dishonest borrower can resell returned goods and fail to inform the lender.

• A borrower may invoice for goods and continue to warehouse them until the customer needs them. If such goods become the subject of a dispute subsequently, the borrower may not succeed in collecting the receivable. Establish whether there are any previous such cases.

• Analyze the receivables periodically to determine whether or not the value is maintained. In order to value eligible receivables, take the total of book value of debtors aging up to 90 days less contras, disputed amounts, intercompany, consignments, and other risky items. Then discount this estimated value by say, 25% or more to provide a cushion for the unseen risks.

• In addition to taking accounts receivable as collateral, endeavor to strengthen collateral cover by taking inventory as well.

• Review financial statements regularly to identify any signs of deterioration in performance, i.e. sales turnover, gross revenue, net income and accounts payables.

Franc Jo is a Senior Underwriter at, the leading provider of outsourced Commercial Credit/ Underwriting support to lenders and funding solutions to small businesses throughout USA. Find similar articles and tips on money matters at